Maximize Social Security AND Have A Tax Efficient Retirement and Vodka Arbitrage – Finger Financial Five #50

“The hardest thing to understand in the world is the income tax.” – Albert Einstein

How can you be tax efficient in retirement and make the most of Social Security? What if you want to retire in your late 50’s or early 60’s?

The decision of when to take Social Security is extremely important.  Optimizing it to its fullest can be tricky.  It is not just a break-even analysis.  What you do may affect your spouse’s benefits for his or her entire life, even if you die early.

This is ESPECIALLY important when you take TAXES into consideration.  Many workers want to retire in their early 60s.  They feel taking Social Security early and delaying withdrawals from IRA accounts may be the best idea.  Often this is a mistake.  Why?

Let me share a story.  When I go to Bulgaria to visit my wife’s family, we often bring gifts of vodka.  Do we buy it at the Bulgarian airport when we land?  No.  We buy it at the Duty-Free shops.  It is cheaper there because we don’t have to pay taxes. I call this “vodka” tax arbitrage.

Retirees can do kind of the same thing.  You can pay taxes early at lower rates, instead of later at higher rates.  Won’t I be in the same bracket throughout retirement?   Doubtful.  Taxes for retirees may go up for three reasons:

  1. Retirees are almost automatically in lower tax brackets when they no longer have employment income.  In other words, their adjusted gross income is low.

  2. If retirees have large pre-tax IRA or 401(k) balances, they will be forced to take taxable withdrawals as RMD (Required Minimum Distributions) when they turn 72 years old.  The percentage they take is ever increasing as they age, too. This can push retirees into higher tax brackets.

  3. Taxes are currently at a historic low and may go up in the future.

How can you do “retirement tax arbitrage?”

First, use IRA withdrawals for your retirement income now that you are probably in a lower tax bracket. Can you see the similarities to “vodka arbitrage?” Second, delay taking Social Security benefits.  When you delay Social Security benefits, your Social Security income increases by roughly 8% per year.

Delaying the taking of your Social Security benefits does two things:

  • It maximizes Social Securities benefits, which is tax efficient because Social Security has its own way of being taxed – it’s called the Provisional Income Formula.  You want that income to be as high as possible.

  • It reduces your pretax IRA account values, which in turn reduces your future RMD.  In other words, it reduces your future taxable income.

You may find your taxable income in retirement is lower than you expect.  This creates a tax savings opportunity.  For example, if you have unused room in your lower tax bracket, you may want to take advantage of a Roth IRA conversion.  This simply means withdrawing some pre-tax IRA money that you do not need to spend, paying taxes at a lower rate on this money, and placing it in a Roth IRA.  This increases the money in your “tax free bucket” (meaning less of your retirement money is subject to RMDs).

Caution: converting too much money to a Roth IRA can increase your taxes too much and have a negative long-term effect.  Instead, convert opportunistically, rather than blindly.  Convert more when you are in lower brackets and less when in higher brackets.

“…Engaging in Roth (additions/conversions) accounts more opportunistically (rather than consistently tax diversifying) produces a nearly 10% lift in cumulative lifetime after-tax wealth… amounting to more than $400,000 in additional wealth for optimizing ‘just’ $10,000/year annual contributions ($5,000 per person) for the couple during their working years!

The good news is that, while trying to ‘time’ the markets is challenging at best, ‘timing’ one’s own tax circumstances is far easier and much more practical.1”

Tax planning and Social Security optimization can be complex.  For you, it does not have to be.  Simply click here to setup a phone appointment or send me an email at [email protected].  Happy to run an illustration for you.  No charge.

On the lighter side, Elliott and I took a tennis lesson this weekend.  It was the first time we touched a racket in over two months.  We each hit the ball ok.  Beautiful day outside.  We’ll probably do it again this weekend, too.

Hope all is well with you and your family,


Finger Financial Five – 5 points in 5 minutes or less – is to provide you with a weekly shot of useful financial information.  My intention is to share principles, so that you will have more clarity and peace, that help you make better financial decisions.


Investment advice offered through Stratos Wealth Advisors, LLC, a registered investment advisor; DBA Riverbend Wealth Management.

This content is developed from sources believed to be providing accurate information and provided by Riverbend Wealth Management. The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. Stratos Wealth Partners and its affiliates do not provide tax, legal or accounting advice. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.


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