Effective vs. Marginal Tax Rate in Retirement: Why Taxes Don’t (Usually) Cause People to Go Broke
This article appears as part of Casey Weade's Weekend Reading for Retirees series. Every Friday, Casey highlights four hand-picked articles on trending retirement topics and delivers them straight to your email inbox. Get on the list here.
Weekend Reading
When you implement a comprehensive tax strategy, you create a barrier to help protect your retirement income from Uncle Sam. Here, author Mike Piper explores the concept of "tax torpedoes" in retirement, where marginal tax rates can be much higher than expected due to the way certain tax provisions interact.
READ THE ARTICLEWhat to know: Piper highlights how additional income can cause a chain reaction of taxes, resulting in marginal rates that exceed 50 percent in some cases. However, these high rates only apply to additional income, not the overall tax burden (as represented by the effective tax rate). For instance, a couple with $90,000 in income may face a marginal tax rate of 22.2 percent, but their overall tax liability is much lower, resulting in an effective tax rate of just 4.3 percent.
Key takeaways: Your money is impacted by taxes in different ways, which your overall retirement strategy should consider. Marginal tax rates are important for decisions related to Roth conversions, retirement account withdrawals, and contributions, while effective tax rates are more relevant when assessing the impact of taxes on financial security in retirement.