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Retirement and Social Security, Part 5

You have a choice when you take Social Security. The earliest age if not disabled is 62 and the latest is 70. Between these two end points, you can select when benefits will commence. If you start your benefits at age 62, they’ll be less than the amount at normal retirement age and if you postpone until age 70, they’ll be more. The ideal starting time for you depends on how much you have in your qualified and non-qualified savings/investments as well as other considerations such as the age difference between you and your spouse and your tax bracket. It may be an economic necessity that you start Social Security as early as possible. If your health is poor, you may also want to start your benefits early. You should take into consideration that your Social Security benefits will receive favorable tax treatment because generally only one-half is included in calculating your taxable income base.

You also have choices when you take your qualified retirement money. In exchange for allowing you to accumulate money tax-deferred in retirement accounts, the IRS mandates a penalty if this money is taken before age 59 and a half (some plans allow starting at earlier ages and there are ways to take withdrawals without penalties prior to age 59 and a half) and requires you to start taking minimum distributions at age 70 and a half. Regardless of when you take your qualified retirement money, you will pay taxes on 100 percent of the withdrawals since neither the initial contributions nor the earnings have been taxed. You do have the option of converting to a Roth IRA if you qualify and your circumstances are suitable. While you will still pay taxes on 100 percent of the amount converted, the principal and earnings in your Roth will be available tax-free thereafter and also can be stretched by your spouse or non-spouse beneficiaries.

The non-qualified money is yours to take whenever you desire as there is no mandatory requirement that it be used for retirement. Most likely, you’ve already paid the income taxes on the principal amount saved or invested, leaving only the earnings or capital gains yet to be taxed. Special tax treatment of certain non-qualified money, e.g. capital gains and dividends, can complicate when these assets should be used. Relative to the earnings on your non-qualified money, there are safe money investments that defer taxes and yield the benefits of triple compounding. This is covered later as part of when you should take IRA money.

You’ll not be the only one using your savings during retirement because the tax man will also be taking a percentage. Therefore, to get the most from your hard-earned money you must think in after-tax terms. Since the categories of money are taxed differently, it does make a difference when each is used. The conventional wisdom has been to tap your traditional IRA assets and other qualified money last. It’s unfortunate that many have relied on this rule of thumb because the conventional wisdom is not always right for the average retiree. The traditional reasoning has been that deferring taxes as long as possible leads to greater growth. While this is correct so far as it goes and is true for non-qualified money, important tax considerations and their impact have been overlooked when the conventional wisdom is applied to qualified money.

As will be demonstrated in future installments, the correct timing for the use of the three categories of money by the average retirees is to use IRA money first, delay Social Security as long as possible, and position your non-qualified money correctly and use it last. There are notable exceptions to this new wisdom because dividends, long-term capital gains, municipal bonds, Roth IRA and other investments also enjoy favorable tax treatment. Plus, your health, economic conditions and other income sources could have a bearing.

Nonetheless, the average retiree generally does not have money in these places or these special circumstances. If you are among the fortunate few retirees who have more assets than needed for retirement, you can still benefit from the new wisdom we’ll develop later, but you’ll also have a more complicated planning task. Let’s now turn to the analysis of timing the use of your three categories of retirement money.

I will be happy to answer any questions you may have or arrange for a free consultation.

Edward Fusco can be reached at Harbor Village Professional Center, 18 Main St., Townsend, MA 01469. Call (978) 597-9177 or take a look at what everyone is raving about at www.sbr.retirerx.com.

This information is provided for informational purposes only and may not be suitable for every situation.