Planning Ahead: Why Roth Accounts Are a Smart Way to Pay Taxes in Retirement
Imagine retiring and finally enjoying some well-earned relaxation time on your favorite beach or spending quality time at home with your kids or grandkids. Maybe you have other adventures in mind or places you wish to visit. Whatever your retirement dreams may be, it’s never too late to start planning ahead.
Many of us who are planning, saving, and investing during our working years don’t realize we’re facing a hidden tax trap when we stop working. In addition, very few professional advisors tell us we’ll encounter a critical decision in retirement about how to pay taxes.
Where do you get the money to pay your taxes?
I realize future taxes may not be the first thing on your mind when it comes to saving and investing. After all, life has many priorities that demand our attention.
The fact is though, many of us are making decisions right now that may have expensive consequences when deciding where to save and invest our assets. These decisions may cost us tens if not hundreds of thousands of dollars in additional taxes when we retire.
Three Ways to Pay Taxes in Retirement
There are only three sources of funds to pay taxes in retirement:
Checking or savings accounts
Taxable investment accounts
Retirement accounts (Traditional IRA, 401(k), as well as other retirement plans)
While many of us might choose the account that has the most money, this may not be the best source of funds to pay taxes. An incorrect choice will trigger additional, unnecessary taxes.
The Problem with Using Checking or Savings
Paying taxes out of your bank accounts means less cash is available to fund your lifestyle or pay unforeseen expenses. These accounts are your liquid reserves – and tapping into them for tax payments reduces your financial flexibility.
This source of funds isn’t an ideal choice and one we should seek to avoid.
The Hidden Cost of IRA or Taxable Account Withdrawals
Taking withdrawals from a Traditional IRA, 401(k) or other tax deferred account to pay taxes in retirement may seem convenient, but it leads to a frustrating tax trap:
You withdraw funds to pay taxes...
That withdrawal is taxable income...
Which increases your total tax bill…
So, you must withdraw even more money next quarter
Likewise, selling assets in taxable investment accounts may create capital gain income, which also increases your tax liability.
The Roth Advantage: A Non-Taxable Solution
Roth accounts (Roth IRA, Roth 401(k), and other Roth plans) offer a powerful benefit in retirement: Qualified withdrawals are non-taxable.
That means you can use Roth funds to pay:
Quarterly tax estimates
Year-end tax surprises
Healthcare costs or unexpected expenses
…without increasing your taxable income or triggering the dreaded tax trap.
Real World Example
This issue recently came to light when discussing planning strategies with a 51 and 49 year-old couple who have two children that are about to graduate college. They’re looking for ideas on how to wisely invest income that will no longer be needed to pay college expenses. During this meeting, I asked the question posed earlier in this article...
Where do you get the money to pay taxes in retirement?
As with many of us, they hadn’t given it much thought since they didn’t face the decision today. After they gave an answer, I reviewed the following two examples with them to illustrate the potential tax trap:
Income Scenario A:
Income: $ 120,000 per year
Taxes: $ 10,420 per year
Additional Taxes: $ 1,954 per year
Income Scenario B:
Income: $ 240,000 per year
Taxes: $ 36,677 per year
Additional Taxes: $ 9,102 per year
Why are additional taxes due? Because the clients – after thinking about my question – decided to take distributions from their retirement plan in order to pay taxes. The reason why is because their retirement plan is where the majority of their assets are held, which is also true for many of us who save for retirement.
Instead of using their retirement plan as a source of funds, their CPA and I designed a strategy that uses assets held in non-taxable accounts. The clients were advised to shift a portion of their 401(k) contributions – plus income not needed for college expenses – to the wife’s Roth 401(k) plan offered by her employer.
This simple reallocation will save an estimated $ 46,896 in Scenario A and $ 218,448 in Scenario B in additional taxes. The estimated tax savings are based on current federal tax laws for a married couple with no dependents, who file their taxes jointly, and live until their estimated joint life expectancy of 89 years of age. The savings will be even greater if income is subject to state and local taxes or tax rates are increased in the future.
Is it possible to reduce the amount of additional taxes by selling investments with long-term capital gains and using these funds instead? Of course, long-term capital gains are subject to lower tax rates. However, the point remains the same: Additional taxes are incurred, which could have been avoided with further planning.
The Bottom Line
Paying taxes by selling assets or taking distributions from tax deferred accounts is a significant hidden expense in retirement. Not only is this expense avoidable, but it means you’re paying taxes on your taxes.
Paying taxes with non-taxable Roth funds avoids this trap.
Next Step
Want to avoid paying taxes on your taxes in retirement? Schedule a complimentary 30-minute consultation today.
📧 Contact us at info@rothadvisors.com
―――――――――――――――――――――――――――――――――――――――――――――
About the Author
David Golder serves as Managing Partner at Roth Advisors, which specializes in designing non-taxable investment and insurance plans. He has over 25 years of experience in the financial services industry and is recognized for his forward-thinking approach, providing sophisticated guidance to clients and advisors on complex estate, business, and financial planning matters.
Disclosures
This information is for general educational purposes only and is not intended as investment, insurance, legal, or tax advice. Tax treatment may vary based on individual circumstances. Consult with qualified financial, legal, or tax professionals before making any decisions.
This material does not establish an agency or fiduciary relationship. Opinions reflect our views as of the publication date and may change without notice.
Copyright © 2025 Roth Advisors. All rights reserved.