Managing Your Withdrawals in Retirement

If you’re like many UC employees, you contributed to the UC 403(b), 457(b), and/or DC Plan while you were working. Now, the time has come to use that money.

Managing your withdrawals with taxes in mind can help boost your income in retirement. Not only do taxes reduce your income, they can diminish potential future earnings and growth, which affects how long your savings may last.

The aim is to manage your withdrawals to help reduce the amount that is taxed, while maximizing the ability of your remaining investments to grow tax efficiently.

One potential strategy: Use money from your savings and retirement accounts in the following order. If you decide to use this strategy, remember one important caveat: If you are 70½ or older, you will need to take your minimum required distributions (MRDs) from your tax-deferred accounts first. The rules are complex, and everyone’s situation is unique, so be sure to check with a tax professional.

1. START WITH A TAXABLE ACCOUNT, IF YOU HAVE ONE

  • What they are: Bank savings accounts and personal investment accounts are examples of taxable accounts. Your contributions to these accounts are made after taxes, so you won’t owe income taxes on your contributions when you withdraw them, but you will generally pay taxes on any earnings in your account, such as interest and dividends, and capital gains.
  • How it works: Money in taxable accounts is typically the least tax efficient of the three types. So if you have a taxable account that you want to use for retirement income, it generally makes sense to start withdrawing money from that account first. This will allow your tax-deferred accounts and any tax-exempt accounts to continue to potentially grow.
  • What to know: You’ll likely have to sell investments when you make a withdrawal. If you have any growth, or appreciation, of the investment, you’ll pay capital gains tax. If you’ve held the investment for longer than a year, you’ll generally pay federal long‐term capital gains taxes, which currently range from 0% to 20%, depending on your tax bracket (a 3.8% Medicare tax may also apply for high‐income earners). Be aware that states may also impose taxes on your investments. If you have a loss, you can use it to reduce up to $3,000 of your taxable income, or to offset any realized capital gains.

2. THEN WITHDRAW FROM TAX‐DEFERRED ACCOUNTS

  • What they are: The UC Retirement Plan and the UC 403(b), 457(b), and DC Plans are examples of tax-deferred accounts, as are 401(k) plans and traditional IRAs. Most, or all, of your contributions to these accounts are made before taxes. That means you’ll owe income taxes on those contributions when you withdraw them in retirement. Any earnings from these accounts are also typically taxed as ordinary income when they’re withdrawn.
  • How it works: Although you’ll have to pay ordinary income taxes when you withdraw pretax contributions and earnings from a tax‐deferred retirement account, at least you’ve given these assets extra time to potentially grow by taking withdrawals from any taxable accounts first.
  • What to know: You may find yourself in a lower income tax bracket as you get older, so the total tax on your withdrawals could be less. On the other hand, if your withdrawals bump you into a higher tax bracket, you might want to consider withdrawals from tax‐exempt accounts first. Finally, if you are 70½, make sure you understand the rules for your MRDs. This can be complex, and it may be a good idea to consult a tax professional.

3. THEN WITHDRAW FROM TAX-EXEMPT ACCOUNTS, IF YOU HAVE ANY

  • What they are: Health savings accounts (HSAs) and Roth IRAs are examples of tax-exempt accounts. As long as certain conditions are met, your earnings in these accounts aren’t taxable. And while contributions to a Roth account are typically made after taxes, contributions to your UC HSA are made before taxes, which gives you an immediate tax advantage, too.
  • How it works: Last in line for withdrawals is money in any tax‐exempt accounts. These withdrawals are tax-free, as long as certain conditions are met. So the longer you can leave these savings untouched, the longer the potential for them to generate tax‐free earnings. And leaving these accounts untouched for as long as possible may have other significant benefits. For example, if you have a large unexpected medical bill, you can withdraw money from an HSA to pay for it without triggering a tax liability.
  • What to know: For Roth IRAs, MRDs are not required during the lifetime of the original owner. Moreover, Roth accounts can be effective estate‐planning vehicles for those who wish to leave assets to their heirs. Any heirs who inherit them generally won’t owe federal income taxes on their distributions. Be sure to consult an estate planner if leaving money to heirs is important to you.

PLANNING FOR FLEXIBILITY

While the traditional withdrawal hierarchy of taxable, tax‐deferred, and tax‐exempt assets is a good starting point for many retirees, your situation and changing circumstances may require making adjustments. You might move from a low‐tax state to a high‐tax state, for example, or take withdrawals from tax-deferred accounts that push you into a higher tax bracket.

Other factors that could play a significant role in your retirement tax strategy are whether you intend to continue working, the income tax rate in the state and locality where you plan to retire, and how much of an inheritance you would like to leave for your family members or to a charity.

That’s why it is important to have an overall retirement income plan and regularly revisit it and update it when necessary. You can work with a Fidelity Retirement Planner to evaluate your decisions, plan out your strategy, and discuss how much and when to withdraw from your accounts. Call 1-800-558-9182 or visit getguidance.fidelity.com/universityofcalifornia to learn more.

KNOW YOUR SITUATION

The keys to managing withdrawals from retirement accounts are to know your situation and tax exposure, to understand the basics of smart tax planning, and to consult a trusted professional to get the help you need in designing a tax‐efficient retirement income plan.

You’ve worked long and hard to build your retirement savings; now, a little smart tax planning can help you maximize its value.

Keep in mind that investing involves risk. The value of your investment will fluctuate over time, and you may gain or lose money.

Fidelity does not provide legal or tax advice. The information herein is general and educational in nature and should not be considered legal or tax advice. Tax laws and regulations are complex and subject to change, which can materially impact investment results. Fidelity cannot guarantee that the information herein is accurate, complete, or timely. Fidelity makes no warranties with regard to such information or results obtained by its use, and disclaims any liability arising out of your use of, or any tax position taken in reliance on, such information. Consult an attorney or tax professional regarding your specific situation.

A distribution from a Roth IRA is tax free and penalty free provided that the five‐year aging requirement has been satisfied and at least one of the following conditions is met: you reach age 59½, die, become disabled, or make a qualified first‐time home purchase.

A distribution from an HSA is federally tax free and penalty free provided that it is used for qualified medical expenses.


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