Which Retirement Account Should I Withdraw From First?

One of the trickiest parts of retirement isn’t just having enough money saved, but knowing the most tax-efficient way to use it. Many retirees have money spread across several different types of accounts: traditional IRAs, Roth IRAs, 401(k)s, pensions, brokerage accounts, and sometimes even annuities.

Each of these accounts is taxed differently. The order in which you draw from them – your withdrawal strategy – can have a big impact on how much tax you pay over the course of your retirement. Get it right, and your savings stretch further. Get it wrong, and you may end up with unnecessary tax bills.

The Three Main Account Types

To understand withdrawal strategy, it helps to review the basic types of accounts most retirees have:

1. Taxable accounts: Brokerage accounts, savings, CDs. You pay capital gains taxes on growth and dividends, but you can withdraw anytime without age restrictions.
   
2. Tax-deferred accounts: Traditional IRAs, 401(k)s, and pensions. Contributions went in pre-tax, and withdrawals are taxed as ordinary income. Subject to Required Minimum Distributions (RMDs).
   
3. Tax-free accounts: Roth IRAs and Roth 401(k)s. Contributions were after-tax, but qualified withdrawals are tax-free and don’t affect your taxable income.
   

Each plays a different role in retirement, and the sequence of withdrawals determines your annual tax bill.

The “Conventional” Approach

A common rule of thumb is:

1. Use taxable accounts first.
   
2. Then move to tax-deferred accounts.
   
3. Save Roth accounts for last.
   

Why? People often start with the taxable account because it’s the least tax-efficient. Dividends and capital gains are taxed along the way, and most people are ingrained to think deferral is always better.

Taxable accounts can also be less efficient to leave behind (heirs get a step-up in basis, but not tax-free income), while Roth accounts are the most efficient (heirs can withdraw tax-free). By preserving Roth money until the end, you maximize long-term tax advantages for both yourself and beneficiaries.

But It’s Not Always That Simple

Rules of thumb are a starting point, not a one-size-fits-all plan. In reality, the best strategy depends on your specific income, expenses, and goals.

For example:

• If you have a large tax-deferred account, waiting until RMDs kick in at age 73 might mean very large, taxable withdrawals later. Taking some money earlier—even if you don’t “need” it—can smooth out taxes over time.
  
• If you’re in a lower bracket in early retirement, it may make sense to take more from traditional accounts and even consider Roth conversions.
  
• If you’re close to a higher tax bracket or a Medicare premium threshold, pulling from Roth accounts to keep income lower might be smarter.
  

The Tax Torpedo Problem

One key issue retirees face is how withdrawals interact with Social Security taxation. Additional income from IRAs or pensions can cause more of your Social Security benefits to become taxable, creating what’s often called the “tax torpedo.”

This makes withdrawal planning even more important. For example, strategically drawing from Roth accounts in years when Social Security is taxed can reduce the impact. However, this may not be a planning factor for many retirees who have diligently saved or have healthy pensions. That’s because their income will always be high enough to push them over the maximum tax threshold.

A Coordinated Strategy

A well-designed withdrawal plan may blend sources in the same year:

• Covering expenses with taxable account withdrawals first, since long-term capital gains are often taxed at lower rates.
  
• Adding controlled amounts from tax-deferred accounts to stay within a lower bracket, especially before RMD age.
  
• Tapping Roth accounts when needed to avoid pushing income into higher brackets or triggering Medicare surcharges.
  

It’s less about rigid rules and more about balancing different buckets in a way that minimizes lifetime taxes.

An Example

Let’s look at two retirees, both age 65, with $500,000 in a traditional IRA, $200,000 in a Roth IRA, and $150,000 in a taxable brokerage account. They need $60,000 a year in income, including Social Security.

• Scenario A: They use the “conventional” approach and withdraw from the brokerage first. By the time they reach 73, their traditional IRA has grown, and their RMDs are very large—pushing them into higher tax brackets and raising Medicare premiums.
  
• Scenario B: They blend withdrawals. They take some from the brokerage, some from the IRA (up to the top of their current tax bracket), and supplement with Roth withdrawals when needed. By the time RMDs arrive, the IRA balance is smaller, their taxes are lower, and they’ve reduced exposure to Medicare surcharges.
  

Over a 25-year retirement, Scenario B may save them tens of thousands in taxes.

Don’t Forget Heirs

Withdrawal strategy also affects what you leave behind. Since the SECURE Act, most non-spouse heirs must withdraw inherited IRAs within 10 years, which can create a large tax bill. Heirs of Roth accounts, on the other hand, generally receive distributions tax-free.

That means preserving Roth accounts for inheritance can be a smart estate planning move, while using traditional accounts earlier may make sense.

Key Takeaways for Retirees

• Avoid rigid rules: A flexible, blended approach usually works better than sticking to one order of withdrawals.
  
• Watch tax thresholds: Plan withdrawals to avoid bumping into higher brackets, Social Security taxation, or Medicare surcharges.
  
• Consider Roth conversions: Converting portions of a traditional IRA before RMD age can balance future withdrawals and provide more tax-free income later.
  
• Coordinate with goals: If leaving assets to children is important, prioritize Roth preservation. If spending down assets is the goal, use traditional accounts more aggressively. 

Planning ahead for tax-efficiency

Your retirement income isn’t just about what you’ve saved—it’s also about how you use it. Different accounts are taxed in different ways, and the sequence of withdrawals can determine how much you actually keep over your lifetime.

A thoughtful withdrawal strategy considers not just today’s tax bill, but how your decisions ripple through the years ahead—affecting RMDs, Social Security, Medicare premiums, and even the legacy you leave your heirs.

By coordinating your income sources wisely, you can reduce taxes, increase flexibility, and make your retirement savings work harder for you.

To get help from a fee-only fiduciary and make sure that tax efficiency is a part of your retirement plan, email me at [email protected] or call 903-471-0624 and I’d be glad to help you.