Tax planning is a big part of retirement planning. If you're not mindful of all the taxes you could face, you may be in for a surprise.
You probably know about paying taxes on your retirement account distributions and capital gains in your investment accounts. And you probably know you'll pay taxes on other income like interest from your bank account or a pension from a past employer.
But here are three unexpected taxes you could face in retirement, including Social Security taxes.
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1. Social Security taxes based on combined income
You may be able to get through retirement without paying any taxes on Social Security, but don't be surprised if the IRS wants some of that money back.
The IRS taxes Social Security based on a metric called combined income. Combined income is the sum of your adjusted gross income (AGI), nontaxable interest, and one-half of your Social Security benefits. You'll owe taxes on 50% of your Social Security benefits exceeding $25,000 ($32,000 for married couples) but not exceeding $34,000 ($44,000). Combined income exceeding the upper threshold results in 85% of Social Security benefits taxed.
For example, if you file an individual return, had an AGI of $20,000, and collected $12,000 of Social Security benefits, you'd have a combined income of $26,000. That's $1,000 above the $25,000 threshold, meaning $500 of your Social Security benefits are taxed.
A married couple with an AGI of $40,000 and Social Security benefits of $20,000 has a combined income of $50,000. That means 85% of the $6,000 in Social Security benefits above the upper threshold are taxed, and 50% of the $12,000 between the two thresholds is also taxed. So, the couple must pay income taxes on $11,100 of the Social Security benefits they received.
If you can limit your AGI while collecting Social Security, you can avoid paying taxes on your benefits altogether. But you'll likely have to pay something to Uncle Sam.
2. Property taxes
Even if you pay off your mortgage before you retire, you'll still owe property taxes on your home.
The average single-family home in the U.S. had an effective property tax of just over 1% of its assessed value. If you no longer have a mortgage with an escrow account, you'll need to be sure to budget for your property taxes.
Property taxes are due at different times of the year based on the state where you live. Some states split the payments into installments due throughout the year. You'll typically receive an assessment and a notice well before the taxes are due. Be sure to file and pay your property taxes on time in order to avoid penalties.
3. Gift and estate taxes
Many retirees want to leave money to their families, but they need to be mindful of the gift and estate taxes.
The current gifting limit is $17,000 per individual per year. That means you can gift up to $17,000 to any individual without having to report anything on your taxes. You can give up to the limit to multiple individuals, so if you have several children or friends you'd like to gift, you can give away a lot of your money with no tax consequences whatsoever. You and your spouse can even double the amount by each gifting the maximum amount.
If, however, you want to gift more than the limit to someone in a given year, you'll have to file a return. Any amount above the limit will count toward your lifetime exemption, which currently stands at $12.92 million per individual. That exemption will get cut roughly in half in 2026 when the current tax code expires.
It's important to note that gifts in excess of the annual limit will reduce the amount of your estate tax exemption when you pass. So, if you have a sizable estate, you should be very mindful of how you pass it on to your heirs and the taxes you or they might have to pay.
