Tax-Efficient Withdrawal Strategies: Which Account First?

You've spent decades accumulating retirement savings across different account types, taxable, tax-deferred, and tax-free. Now comes the question: which account should you draw from first? The answer can save you tens of thousands in taxes over your retirement.

The Three Buckets

Most retirees have savings in three tax categories:

The Conventional Wisdom

The traditional advice is simple: withdraw from taxable accounts first, tax-deferred second, tax-free last. The logic:

• Taxable accounts have been partially taxed already
• Tax-deferred accounts continue growing tax-deferred longer
• Tax-free accounts grow tax-free the longest, maximizing their benefit

This works as a baseline, but it's rarely optimal. A more nuanced approach can save significantly more in taxes.

The Better Approach: Tax Bracket Management

Instead of following a rigid order, manage your withdrawals to stay in lower tax brackets each year. This often means drawing from multiple account types simultaneously.

The Strategy

1. Cover expenses with taxable accounts first (as conventional wisdom suggests)
2. Fill up lower tax brackets with withdrawals from tax-deferred accounts or Roth conversions
3. Use Roth for excess needs or keep it growing

Example: A married couple needs $80,000 and has $40,000 in Social Security. They could:

• Take $40,000 from taxable accounts (paying only capital gains rates)
• Withdraw an additional $20,000 from their traditional IRA to fill the 12% bracket
• Result: They've reduced their future RMDs and stayed in low tax brackets

The Roth Conversion Opportunity

Early retirement years, before Social Security and RMDs, create a unique opportunity. If you're in a low bracket, consider converting traditional IRA money to Roth:

• You pay taxes now at low rates
• The converted money grows tax-free forever
• You reduce future RMDs (which could push you into higher brackets)
• You avoid potential tax increases on RMDs

This is essentially choosing to pay taxes at today's known rates rather than tomorrow's unknown rates.

Special Considerations

Social Security Taxation

Up to 85% of Social Security benefits become taxable as your income rises. Tax-deferred withdrawals count as income and can trigger this taxation. Strategic use of Roth withdrawals (which don't count as income) can reduce how much of your Social Security is taxed.

Medicare Premiums (IRMAA)

Higher income means higher Medicare Part B and D premiums through Income-Related Monthly Adjustment Amounts. Large traditional IRA withdrawals or RMDs can trigger these surcharges, potentially $500+ extra per month. Roth withdrawals don't count toward IRMAA calculations.

Capital Gains Harvesting

If your taxable income is low enough, you may qualify for the 0% long-term capital gains rate. In 2025, that's up to $96,700 for married couples. Consider selling appreciated assets in taxable accounts to "harvest" gains tax-free, then immediately repurchase (no wash sale rule for gains).

The ACA Consideration

If you retire before 65 and buy health insurance on the ACA marketplace, your withdrawal strategy affects your subsidies. ACA subsidies are based on Modified Adjusted Gross Income (MAGI), which includes:

• Traditional IRA/401(k) withdrawals
• Taxable account gains
• Roth conversions

It does NOT include:

• Roth IRA withdrawals
• Loans (though not recommended for retirement income)

Strategic use of Roth accounts during the Medicare gap years (before 65) can preserve ACA subsidies worth thousands annually.

Practical Withdrawal Order

Here's a more sophisticated framework:

1. Required Minimum Distributions first (if applicable). You have no choice
2. Taxable accounts for general spending, favorable capital gains treatment
3. Tax-deferred accounts to fill up low tax brackets, reduces future RMDs
4. Roth accounts for amounts that would push you into higher brackets, trigger IRMAA, or increase Social Security taxation

Exception: If you have highly appreciated assets in taxable accounts and are in low brackets, prioritize harvesting those gains at 0% rates.

Year-End Planning

Revisit your strategy each fall:

• Project your income for the year
• Identify "room" in lower tax brackets
• Consider Roth conversions to fill that room
• Harvest capital gains if in the 0% bracket
• Review impact on Medicare premiums (2-year lookback)
• Check ACA subsidy implications if applicable

Common Mistakes

Following a rigid order without considering tax brackets. The "taxable first" rule shouldn't mean ignoring opportunities to fill low brackets with tax-deferred withdrawals.

Ignoring Roth conversions. The years between retirement and RMDs are a unique window. Don't waste low-bracket years that won't return.

Triggering unnecessary IRMAA or Social Security taxation. A dollar withdrawn from a traditional IRA might effectively cost more than a dollar when it triggers these secondary taxes.

Not coordinating with a spouse. If one spouse has mostly tax-deferred and the other has Roth, coordinate withdrawals for optimal household taxation.