Reducing Taxes in Retirement: 2018 Tax Reform Update

Reducing Taxes in Retirement

Hello folks! Welcome back to The Green Swan. Today I have another post coming from a reader suggestion (thanks Chris!) which I’m excited to tackle. It is always great to get suggestions on subjects you want to hear more about. So today I will be taking a fresh look on reducing taxes in retirement as a result of the 2018 tax reform legislation. It is going back a little while now, but in May 2017 I wrote about my strategy to never pay taxes again. Today’s article will be a refresh of the concepts and strategies first introduced in that post. So let’s jump right in!

The 2018 TCJA

The Tax Cuts and Jobs Act (TCJA) was signed into law in December 2017 which reformed the corporate, small business and personal tax code beginning in 2018. The big changes to the personal tax code included:

  1. The tax brackets being lowered across the income spectrum
  2. An elimination of the personal exemptions which previously would lower our taxable income ($4,050 per person in 2017)
  3. An increase in the standard deduction which helps offset the negative impact of #2 above (an increase from $12,700 in 2017 for married filing jointly to $24,000 in 2018)
  4. A higher child tax credit which also is more widely accessible because the income cap where it begun to phase out was raised
  5. And although not as big of a headline grabber, it is also notable that the tax treatment on long term capital gains (LTCG) and dividends is largely unchanged.

Each of these changes coming from the TCJA has an impact on my strategy for reducing taxes in retirement as detailed below.

Long Term Capital Gains and Dividends

The last change (point #5) is an important consideration for reducing taxes in retirement. Before the TCJA, there were three tax tiers for LTCG…0% when overall ordinary taxable income fell within the 15% tax bracket, 15% when ordinary taxable income was within the 35% tax bracket, and 20% for the 39.6% ordinary income bracket.

With the TCJA, the LTCG tax tiers for 2018 and beyond have now been disassociated with the ordinary income tax brackets and now tied to specific income amounts which will be adjusted for inflation going forward. Although there has been talks about tying it back to the ordinary income brackets in the future (its Congress…who knows what will happen).

Now, for married filing jointly, LTCG are taxed at 0% when total taxable income is <$77,200, 15% if total taxable income is >$77,200 but <$479,000, and 20% when total taxable income is >$479,000. Don’t forget that any reportable LTCG/Dividends you may have in any given year counts toward your taxable income figure even if the tax is ultimately 0%.

While LTCG tax tiers are now tied to their own dollar thresholds, it is noted that it still correspond closely to the thresholds prior to the TCJA.

This is important as avoiding capital gains taxes is a key tenet in my prior post on never paying taxes again. In retirement, my primary income will be from the conversion of Traditional IRA investments (pre-tax investments) to Roth IRA (after-tax)…more on that below. These conversions are a taxable event so my plan was to manage the amount I convert each year to keep my reported taxable income within the 0% LTCG tax tier.

The other main income of mine in retirement will in fact be from LTCG/Dividends in my taxable brokerage account. Remember, these too are reported as income factored into my total ordinary taxable income. If taxable income goes above the ~$77K threshold (including the conversions which are a taxable event as well as LTCG/Dividends), then all LTCG/Dividends will then be subject the 15% bracket.

Exemptions, Deductions and Credits

Exemptions, deductions and credits were the other major change in the TCJA that affects my strategy to reducing taxes in retirement. Together, exemptions and deductions are subtracted from total income (e.g. my reportable income from conversions and LTCG) and can help get the resulting taxable income below the ~$77K threshold I’m shooting for. Credits, on the other hand, directly offset taxes due on a dollar for dollar basis.

In the long term, the tax law changes to exemptions, deductions and credits from the TCJA should be to my benefit, but let me explain.

Personal exemptions were eliminated. Bummer! In my situation, my family of four allowed me to lower my taxable income by $16,200 ($4,050 exemption per person) in 2017. The benefit provided by the kiddos deduction was big, but is limited as the extent they would be in the house during my retirement would be relatively short-lived. So as far as my retirement years are concerned, the elimination isn’t quite as drastic as the exemptions going away which eliminates $8,100 of exemptions for just my wife and me.

Offsetting exemptions going away, the standard deduction was increased from $12,700 in 2017 to $24,000 in 2018 and beyond. This is a plus for my retirement as in that stage of life my itemized deductions would have been around ~$13K (primarily mortgage interest and real estate tax) and kind of a breakeven with the previous standard deduction amount. Now that the standard deduction is raised to $24,000, I will most certainly benefit by taking the standard deduction. Further, the increased level of deduction more than offsets my wife and my $8,100 exemption going away.

In summary, pre-TCJA I would theoretically been able to reduce my total income by $20,800 via the $12,700 deduction and $8,100 exemption (not taking into consideration the handful of years in retirement where I could have taken my kiddos personal exemption too). Now with the TCJA, my total income will be reduced by the $24,000 (solely via the elevated standard deduction). So I come out ahead with respect to lowering my taxable income via exemptions / deductions under the TCJA. Boo yea!

The last change to touch on is the child tax credit being increased from $1,000 to $2,000. Additionally, while the credit phased out at income of $110,000 for married filing jointly pre-TCJA, the phase out has now been increased to $400,000.

This comes into play in reducing taxes in retirement to the extent that I will be retired while the kiddos are still in the house. Also, the increase to the child tax credit helps to offset the negative impact from losing their personal exemptions. The two kids alone accounted for $8,100 in exemptions which effectively lowers my federal taxes by about $1,000 per year assuming I’ll be in 12% tax bracket in retirement. Pre-TCJA my child tax credit with two kids would have been $2,000 (assuming I was below the phase out threshold in retirement). That’s a total tax reduction benefit of $3,000 pre-TCJA. Now in 2018 and beyond with the increased child tax credit alone will provide a tax benefit of $4,000 per year. I come out ahead again. Boo yea!

What Hasn’t Changed: Rollovers and Conversions

While there are a number of factors in the TCJA that have changed my strategy of reducing taxes in retirement, there are a number of key aspects that thankfully went untouched by the legislation and remain in play. That includes no changes to rollovers / conversions and no changes to tax and penalty free withdrawals of contributions to Roth IRAs. I touched on these in depth in my prior never pay taxes again post so I will be more brief here.

To recap, since my wife and I have some investments in both Traditional 401(k)s and Roth 401(k)s, upon retirement we will roll them over into their respective IRA counterparts (Traditional and Roth, respectively) and therefore incur no immediate tax consequences on either rollover.

The vast majority of those funds are in Traditional 401(k)s though, so those assets will be key in how we eventually convert them from the Traditional IRA into a Roth IRA which is the center-piece account in my strategy on reducing taxes in retirement. That conversion would be a taxable event (and reported as taxable income as mentioned above). Those funds hadn’t been taxed ever before, so they would be subject to full income tax upon conversion.

Note that as I discussed in my prior post, there is a 5-year period where you must wait before you can access those converted funds, but after the 5-years the entire conversion amount could be withdrawn tax free (you already reported it as taxable income) and penalty-free (avoiding the 10% early withdrawal penalty if you are under 59.5 years old). Specifically, the penalty is avoided because contributions to a Roth IRA can be withdrawn at any time and those converted funds would be viewed as contributions.

Paying Zero Federal Taxes

With rollovers and conversions in play, you can still get by paying zero in federal taxes.

Assuming you have enough investments in a taxable brokerage account to supplement your cost of living (or you maintain a very low cost of living), the key to having no federal taxes is to convert (from the Traditional IRA to a Roth IRA) the amount of which can be offset by the standard deduction and any tax credits applicable to you (such as the child tax credit).

In my situation, I could have total income up to ~$64,000 (e.g. conversions and LTCG/Dividends) which would be lowered to $40,000 after subtracting the $24,000 standard deduction. The $40,000 taxable income would fall in the 10% tax bracket (for married filing jointly) and result in $4,000 of federal tax which is then offset dollar for dollar by the $4,000 child tax credit I could claim.

After the kids are out of the house and the child tax credit is no longer applicable, I would need to keep my income to $24,000 so that it is entirely offset by the standard deduction and therefore have no federal taxes to pay.

My Playbook

With all that said, my playbook has changed since my never pay taxes post originally went live due to personal circumstances. As you may recall, I made another sizeable investment when my siblings and I bought another small business. The funds I used to make that purchase came directly out of my taxable brokerage account. This is the account that would support my cost of living in the first part of retirement while I await the 5-year rule and would also be the account to supplement my cost of living thereafter to stretch out and lower my conversions and keep my reportable income down near the standard deduction.

That isn’t going to be the case anymore since my taxable brokerage account won’t have nearly as much liquidity and I would prefer not having to sell or pull money out of my small business investment. So if I still want to retire at my same target retirement date, I will need to rely more heavily on my retirement accounts and a higher level of conversions (and thereby a higher reportable income and associated tax burden).

My baseline assumption for our retirement cost of living is ~$80,000. Let’s assume that I wind down my taxable brokerage account in those first five years, I will then need to rely entirely on conversions to support my cost of living until I’m 59.5. But that will also mean I won’t have LTCG/Dividends as reportable income after that point either (my taxable brokerage account will be empty…).

In that case, I could convert $100K per year (to access five years later) and rely on the standard deduction to lower my taxable income to $76,000. As such, all that income would stay within the 12% tax bracket (married filing jointly). My federal tax burden would be about $8,700 without the child tax credit and $4,700 with the credit. Additionally, I would have about $4,800 of state income tax.

Subtracting out the income tax of $13,400 (or $9,400 with the child tax credit), I would have $86,600 from my initial conversion available after tax ($90,600 with the child tax credit) and this would be sufficient to cover my estimated $80,000 cost of living.

All that said, paying an estimated ~13% effective federal and state tax rate isn’t too shabby of a job reducing taxes in retirement, especially considering where my marginal tax rate is today!


Note that the above analysis is my understanding of the tax law. Refer to my disclaimer page. You should speak with a tax professional for a complete and thorough understanding as well as how the tax law affects your specific financial situation.


Has the TCJA affected your retirement and tax strategy at all? Let me know in the comments below. Also, feel free to let me know if I missed anything in my analysis.

Thanks for taking a look!

The Green Swan

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  1. I can’t believe nobody commented on this post. I actually came back to it several times to just read the comments as these are my favorite types of articles, and I see zero ? Perhaps because it’s so well written ? I think it is anyway.

    I read your last one several times before the new tax plan came out. I love articles like this as I am always looking for ways to pay less in taxes. I have this thought that as my late teenagers make it through college and no longer require money (like a running faucet) the Mrs. & I could become one of the people that only spend 40-50k per year. Having kids in college and cars etc this isn’t possible right now, but, in a few short years I am learning all I can about how to setup my buckets to live a simpler / cheaper life.

    1. Thanks Chris, very kind of you. A good number of pageviews, just not many comments…it happens. But yes, lots to digest with these types of posts. You and I think along the same lines; always look for ways to pay less tax!

      I can imagine how nice it will be for you once your budget frees up and the kiddos are self-sufficient! What a day that’ll be. Good to be getting the plan ready. Thanks for the comment, Chris, and thanks for spurring me to write the updated post!

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