We all pay taxes on our earned income — money that we earn from working. Income tax is a fact of life in most places around the world, though rates vary widely from country to country. We also pay tax on our unearned income — money that we earn from collecting rents, for instance, or on dividends earned by our stock holdings. And we pay tax on capital gains. If we purchase an asset for $10,000 and sell it for $20,000, we’ll generally owe tax on the difference. Again, rates differ depending on circumstances, and legislators are forever debating the utility of this tax or that tax, but taxes are an ever-present reality in our lives.
What about retirement income? For tax purposes, does my retirement income count toward my income? It would seem only fair that, after a lifetime of paying taxes on earned income and unearned income alike, we would get a break on retirement income and pocket the full amount, tax-free. Unfortunately, that’s not the case.
There are various kinds of retirement income, and each is considered separately by the IRS. Most common is Social Security income. Benefits can begin as early as age 62 and continue for the rest of your life; Social Security is rarely sufficient to meet all one’s retirement needs, but millions of Americans depend heavily on their monthly benefit checks. However, you’ll have to pay federal tax on this income, if you file your taxes as an individual and your total income is greater than $25,000, or if you file a joint return and your joint income with your spouse is greater than $32,000. The IRS follows a formula for taxing Social Security income for individual or joint filers with total income above these base amounts. For instance, 50 percent of your Social Security benefits may be taxable to a certain threshold amount, and 85 percent may be taxable above the threshold amount. The Social Security Administration provides tables with which you can calculate your estimated tax.
Various common sources of retirement income are fully taxable. These include withdrawals from traditional IRAs, 401(k) plans, or other retirement plans; most pension income; and withdrawals from an annuity that is held outside a retirement account. All of this income is taxed as regular income.
Apart from Social Security income, other sources of retirement income are partially taxable. For instance, if you contributed to a regular IRA and were unable to deduct your contribution at the time you made the contribution, this base amount is not taxable when you withdraw it in retirement, though the gains made by your IRA account over the years, over the base amount, remain taxable. Income from an immediate annuity that was purchased with after-tax money may be tax-free. And the basis portion of a cash-value life insurance policy from which you withdraw funds is also tax-free.
Some retirement income is fully tax-free. Withdrawals from a Roth IRA are entirely tax-free, provided the withdrawals are made as per withdrawal requirements. Interest income on municipal bonds is tax-free, whether you’re retired or not. Income from a reverse mortgage is tax-free, as are after-tax contributions withdrawn from a 401(k). Generally, any income that is essentially a return of your own cost basis is tax-free, provided you purchased the investment with after-tax money. And capital gains on the sale of your home may be tax-free, up to $250,000 for single filers and $500,000 for joint filers, provided you have owned the home for at least two years, lived in the home as a primary residence for at least two years, and meet other requirements.
Note that these tax scenarios apply to U.S. federal tax. You may owe state tax on certain retirement income as well, although states are more reluctant to tax retirement income, and some states don’t tax pension or social security income at all. However, in choosing a state to live in in retirement, be sure to consider the whole state tax picture: a break on taxes on retirement income might be compensated for with burdensome property taxes, sales taxes, or taxes on nonretirement income.
Taxes due on retirement income are not always straightforward; if you prepare your taxes yourself, a good tax preparation software package such as TurboTax can help you sort out your situation. If you have a particularly complicated tax situation or are otherwise unsure, it’s worth it to hire professional help.
An income tax calculator is a great online calculator that can give you a rough estimate of how much money you will have to pay in taxes at the end of the year. While it will not give you the exact number that you will get from the IRS, it will get you close enough that you will be able to plan to make the payment. This can help you budget all year long so that paying your taxes is quick and easy.
Using The Calculator:
It is not difficult to use the income tax calculator. You will need to enter all of the requested information in the fields. In order to get the correct amounts for the required fields, make sure you take into account the details below. The number that this financial calculator gives you is then the amount of money that you should expect to pay.