Taxes are a part of life -- whether you're deep in the throes of your career or you've left the workforce behind. But while workers often know to anticipate taxes, retirees can often be caught off guard by them. With that in mind, here are a few tax surprises every senior should have a heads-up on.
1. Pension income is taxable
These days, pensions are less common -- that's why so many workers are encouraged to save independently in an IRA or 401(k) plan. But if you are privy to pension payments in retirement, you should also prepare to have that income taxed. Though there are some exceptions, for the most part, you'll lose a chunk of that money to the IRS.
2. Retirement plan withdrawals are taxable -- even if you don't want to take them
If you have your savings in a traditional IRA or 401(k), as opposed to a Roth savings plan, then any money you withdraw from your account will be subject to taxes. This applies to the withdrawals you actually want to take as well as those you're forced to take in the form of required minimum distributions (RMDs).
RMDs come into play once you turn 72, and the penalties for not taking them are steep -- 50% of the amount you're supposed to remove from your savings but don't. Unfortunately, unless you have your nest egg in a Roth IRA, there's no avoiding RMDs. And if you have a traditional IRA or 401(k) plan, your RMDs will be taxed.
3. Social Security benefits can be taxable
There are 13 states that impose taxes on Social Security income. On top of that, you'll be taxed on your Social Security benefits at the federal level based on your provisional income.
Your provisional income is essentially half of your annual Social Security benefit plus your non-Social Security income. If that total reaches $25,000 and you're single, taxes on benefits will start to apply. The same holds true if that total reaches $32,000 and you're married.
Clearly, these thresholds aren't very high, especially when we consider that the average senior on Social Security today collects $1,657 a month. Throw in modest retirement plan withdrawals, and it's easy to land in a situation where your benefits become taxable to some degree.
Now one thing you should know is that Roth IRA withdrawals don't count toward calculating provisional income. Between that and the fact that they don't impose RMDs, they're a good place to keep your savings. But if you don't have your savings in a Roth IRA, you could end up in a place where your provisional income creates a tax burden for you on the Social Security front.
Know what you're in for
The above items tend to take a lot of seniors by surprise -- but that shouldn't be the case. Rather, it's important to do your share of tax planning before retirement so you know what to expect. Once you're able to anticipate taxes, you'll be far better equipped to deal with them.