How Much Taxes Will Retirees Owe on Their Retirement Income?

Anqi Chen and Alicia Munnell

No 20-16, Issues in Brief from Center for Retirement Research

Abstract: To evaluate their retirement resources, households approaching retirement will examine their Social Security statements, defined benefit pensions, defined contribution balances, and other financial assets. However, many households may forget that not all of these resources belong to them; they will need to pay some portion to the federal and state governments in taxes. The question is just how large the tax burden is for the typical retired household and for households at different income levels. To address that question, this brief, which is based on a recent study, estimates lifetime taxes for a group of recently retired households. The project uses data from the Health and Retirement Study linked to administrative earnings to determine Social Security benefits, and it uses administrative records on state of residence to estimate state tax liabilities. Income is then projected over the expected retirement of each household, and federal and state taxes are estimated with the TAXSIM program. The results relate the present discounted value of lifetime taxes at retirement to the present value of retirement resources. The discussion proceeds as follows. The first section describes the types of taxes that households face on their retirement resources. The second section discusses the data and methodology. The third section presents the results. For the lowest four quintiles, taxes are negligible, but rise to 11 percent for the top quintile, 16 percent for the top 5 percent, and 23 percent for the top 1 percent. These percentages change very little across a variety of strategies for drawing down retirement assets. The final section concludes that taxes are an important consideration for the retirees who are most reliant on 401(k)/IRA and other financial assets. Understanding the magnitude of this liability is important not only for individualsÕ assessment of their own retirement security but also for measuring trends in wealth over time and the impact of wealth on retirement decisions.

Pages: 9 pages
Date: 2020-11
New Economics Papers: this item is included in nep-age and nep-cwa
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Working Paper: How Much Taxes Will Retirees Owe on Their Retirement Income? (2020)
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