At Paraclete Wealth Management, we often meet individuals who’ve followed conventional retirement savings advice for years—only to find that they’re now facing unexpected tax consequences. One of the most common assumptions is that taxes will be lower in retirement, but is that really true?
In this insightful excerpt from David McKnight’s The Power of Zero, you’ll find a thoughtful breakdown of why relying on a lower tax bracket in retirement could lead to an unpleasant surprise. With rising national debt, shrinking tax deductions, and the future of entitlement programs in question, it’s more important than ever to rethink how—and where—you save for retirement.
A great many of my clients come to me with all their retirement savings in tax-deferred accounts. They have spent years following the advice of so-called “gurus” who say things like, “It’s ok to have all your retirement savings in the tax-deferred bucket because, when you retire, you’ll be in a much lower income tax bracket than you were during your working years.” Today, let’s put this claim under the microscope and explain why this is a faulty assumption for several reasons.
Beware of Underfunded Government Liabilities
The Baby Boomer generation is celebrated for many reasons, but they are also a “demographic glitch” that is having a significant impact on the solvency of Social Security. At the inception of this entitlement program, there were 42 workers contributing to Social Security for every one person who was taking money out. Because of the vast size of the Baby Boomer generation, however, the workers-to-retiree ratio has continued to drop over time, jeopardizing the solvency of Social Security and other entitlement programs. Today, the ratio has fallen from 42 to 1 to an unsustainable 3 to 1. In another 10 years, it’s going to be closer to 2 to 1. This makes Social Security a huge, underfunded liability that the federal government is going to have to pay for somehow. And since income tax rates have been at historically low levels over the past 20+ years, it stands to reason that a tax hike is in our near future.
Even if you believe the far-fetched assumption that future tax rates will remain the same as they are today, you must contend with a second concern about your tax-deferred accounts.
The Problem of Disappearing Deductions
When you retire, all the tax deductions you experienced during your working years literally vanish into thin air – right when you need them the most. Let’s take a look at the top four deductions during a typical American’s working years:
Mortgage Interest
This is far and away the number one source of deductions for those who itemize. Every year, you can deduct interest on up to $750,000 of debt on your residence. But here’s the problem: Most of the retirees I see week-in and week-out already have their homes paid off. So, the biggest source of deductions is nonexistent for many retired Americans.
Your Children
This is a significant source of savings because your children count as a tax credit. A credit is far more valuable than just a deduction. A deduction is a dollar-for-dollar reduction in your taxable income, but a credit is a dollar-for-dollar reduction in your tax bill! During your working years, having dependent children can significantly reduce your tax burden through credits like the Child Tax Credit. While the amounts and eligibility requirements for this credit have changed over time, the benefit itself can represent thousands of dollars in annual tax savings. But here’s the reality: by the time most individuals retire, their children are grown and no longer eligible as dependents—removing one of the most valuable credits from your tax picture.
Retirement Plan Contributions
Are you still contributing to your 401(k) or IRA in retirement? Of course not! The whole reason you had these accounts was so that you could take money out in retirement, not continue to make contributions for the purpose of tax deductions.
Charitable Giving
Once charitable, always charitable. Most retirees who made gifts to their favorite causes while working will continue to give back in retirement, too. The difference is that, during retirement, there’s less money to go around. So instead of donating money, many people donate time. In lieu of making that check out to the soup kitchen, they might actually go down to the soup kitchen and ladle the soup themselves. And while this is incredibly noble and worthwhile, it simply doesn’t show up on the IRS’s radar as a deductible activity.
All of these deductions during your working years might have added up to $50,000, $60,000, or in some cases $70,000. But absent any of these deductions in retirement, what’s left? The IRS gives you a choice. You can add up all the above-mentioned deductions (and other miscellaneous ones) and use that total to offset your taxable income. This is known as itemizing. Or you can take the standard deduction. In retirement, many of the itemized deductions used during your working years—like mortgage interest, child-related credits, and retirement contributions—are no longer available. As a result, most retirees default to the standard deduction. For the 2025 tax year, the standard deduction for married couples filing jointly is $29,900. Without the larger itemized deductions that were once common, this fixed deduction often doesn’t offset as much income as retirees might expect.
Here’s an exchange I once heard on a financial radio show:
Caller: I don’t understand. I have less income in retirement than I did during my working years, yet I’m paying more in taxes. How is that possible?
Host: Tell me about your deductions.
Caller: Deductions? I ran out of those a long time ago.
Host: I see. I think I know your problem . . .
You see, it all comes down to deductions. Even if tax rates in the future are the same as they are today, you could still end up in a higher-income tax bracket in retirement than in your working years.
Do You Believe You’ll Enjoy a Lower Tax Bracket in Retirement?
Deciding whether to contribute to tax-deferred accounts really comes down to what you think about the future of tax rates. If you think that your tax rates in the future are going to be lower than they are today – and that you’ll find yourself in a lower tax bracket in retirement – then you should put as much money as you possibly can into tax-deferred investments. Get the tax deduction at today’s higher rates and pay taxes at a lower rate down the road.
If, conversely, you believe that tax rates in the future will be higher, even by 1%, then mathematically you are better off limiting your contributions to tax-deferred accounts.
Take the Next Step Toward Tax-Efficient Retirement Planning
If this excerpt challenged some of your assumptions about taxes in retirement, you’re not alone. Many individuals are discovering that the old model of tax-deferred savings may no longer be the most efficient path forward. That’s why we help clients take a proactive approach to tax planning as part of a comprehensive retirement strategy.
If you’re ready to explore how a shift toward tax-free income could fit into your overall plan—and you’re not yet a client of Paraclete Wealth Management—we invite you to schedule a complimentary strategy session. Let’s take a closer look at your financial picture and begin crafting a retirement roadmap that reflects today’s realities and tomorrow’s opportunities. We look forward to starting that conversation with you.
