NCPA - National Center for Policy Analysis

Retirees Can Hit the 50 Percent Marginal Tax Bracket

February 20, 2003

Workers saving in tax-deferred retirement plans, such as 401(k)s, may be in for a shock when they retire. That is because those with even a modest retirement income can face marginal tax rates in retirement as high as 50 percent, even though the top tax rate is supposed to be 38.5 percent.

This can happen because other retirement income triggers the inclusion of Social Security benefits in figuring taxable income.

  • Take a worker who earned $90,000 a year, with a spouse, retiring at age 62 and eligible for $1,412 a month in primary Social Security benefits, will $706 a month in spousal benefits.
  • That's a total of $2,118 a month or $25,416 a year.
  • The couple receives a reduced corporate pension to reflect retirement at 62 of $33,600 -- without any withdrawals from their 401(k) account, for a total $59,016 a year.
  • At that level of income, withdrawals from the 401(k) will be taxed at a marginal rate of 50 percent.

Does this mean workers shouldn't participate in a qualified 401(k) plan? No. It means workers with higher-than-average incomes need to have retirement assets in a variety of "pockets" -- qualified plans, Roth IRAs and taxable accounts -- to avoid or minimize the tax traps set by Congress.

Source: Scott Burns, "Don't get caught in early-retirement tax trap: Having assets in variety of accounts can lessen effects of this 'torpedo'," Dallas Morning News, February 18, 2003.


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