Tax planning in retirement is a complicated business, so you may need expert help. If you don't have to take minimum required distributions from your IRA or 401(k) plan yet, it makes sense to leave that money tucked in its tax shelter as long as possible. Rely on social security, pension benefits and money produced by taxable accounts before invading tax-sheltered accounts.
Remember that when you draw money out of a taxable account, it goes much further than when you pull cash out of a tax-deferred account. Why? Because you've already paid at least part of the taxes on assets stashed in a taxable account. Everything coming out of an IRA or company plan is taxable (unless you made nondeductible contributions or are tapping a Roth IRA).
Say you need $10,000 for a long-planned European vacation. If you tap a taxable mutual fund account in which shares have appreciated an average of 20%, you'd need to withdraw just $10,415 to have your $10,000 after taxes. Dip into an IRA, though, and you'd have to pull out almost $14,000 to have the same amount left after Uncle Sam claims his share (assuming you're in the 27% bracket). If you take state taxes into account, the gap grows wider.
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And don't assume you'll drop to a lower marginal tax bracket in retirement. While that may happen, required withdrawals from large 401(k) plans and other tax-deferred accounts may push you into a higher bracket than before.
If you work in retirement, consider funding a Roth IRA. There's no deduction for such contributions, but earnings are tax-free once you're 59½ or older and the account has been open at least five years. (The clock starts ticking when you open your first Roth account.) Roth IRAs also have an interesting estate-planning use: Because you never have to make a withdrawal from the account, a Roth IRA can continue to grow tax-free. Anything left at your death passes to your heirs income-tax-free.
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