The Secret to Reducing Lifetime Taxes for Retirees in the 2% Club, From a Financial Planner

If you're a retiree with a pension and significant savings, consider a tax diversification strategy that lowers taxes and avoids penalties like IRMAA to gain better control over your retirement income. When you purchase through links on our site, we may earn an affiliate commission. Here’s how it works. Profit and prosper with the best of Kiplinger's advice on investing, taxes, retirement, personal finance and much more. Delivered daily. Enter your email in the box and click Sign Me Up.You are now subscribedYour newsletter sign-up was successfulWant to add more newsletters?Delivered dailyKiplinger TodayProfit and prosper with the best of Kiplinger's advice on investing, taxes, retirement, personal finance and much more delivered daily. Smart money moves start here.Sent five days a weekKiplinger A Step AheadGet practical help to make better financial decisions in your everyday life, from spending to savings on top deals.Delivered dailyKiplinger Closing BellGet today's biggest financial and investing headlines delivered to your inbox every day the U.S. stock market is open.Sent twice a weekKiplinger Adviser IntelFinancial pros across the country share best practices and fresh tactics to preserve and grow your wealth.Delivered weeklyKiplinger Tax TipsTrim your federal and state tax bills with practical tax-planning and tax-cutting strategies.Sent twice a weekKiplinger Retirement TipsYour twice-a-week guide to planning and enjoying a financially secure and richly rewarding retirementSent bimonthly.Kiplinger Adviser AngleInsights for advisers, wealth managers and other financial professionals.Sent twice a weekKiplinger Investing WeeklyYour twice-a-week roundup of promising stocks, funds, companies and industries you should consider, ones you should avoid, and why.Sent weekly for six weeksKiplinger Invest for RetirementYour step-by-step six-part series on how to invest for retirement, from devising a successful strategy to exactly which investments to choose. For most of your working life, "diversification" referred to one thing: Investment diversification.You might have been told, "Don't put all your eggs in one basket," "Spread your risk," or "Hold a mix of stocks and bonds."But for retirees with pensions, especially those with $1 million or more in savings, there's another kind of diversification that often matters just as much. It's called tax diversification.Become a smarter, better informed investor. Subscribe from just $107.88 $24.99, plus get up to 4 Special IssuesProfit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.Profit and prosper with the best of expert advice - straight to your e-mail.Many Midwestern Millionaires (I wrote a book on this concept) have done things the right way. They showed up every day. They stayed loyal to their employer. They saved well. And now, many have a pension and more than $1 million saved.What surprises most of them is that nearly all of their money is in tax-deferred accounts, and with the uncertainty of future tax rates, it's critical to rethink how you allocate your retirement dollars across the three tax buckets.Tax diversification can dramatically reduce lifetime taxes, preserve your hard-earned pension income and help you avoid hidden costs such as Social Security taxation and Medicare IRMAA surcharges.In this article, I will cover how the buckets work and why this strategy is especially important for pensioned retirees.About Adviser IntelThe author of this article is a participant in Kiplinger's Adviser Intel program, a curated network of trusted financial professionals who share expert insights on wealth building and preservation. Contributors, including fiduciary financial planners, wealth managers, CEOs and attorneys, provide actionable advice about retirement planning, estate planning, tax strategies and more. Experts are invited to contribute and do not pay to be included, so you can trust their advice is honest and valuable.If you have a pension, you're already in a group that represents less than 20% of Americans. Add over $1 million in savings, and you join what we call the 2% Club (you can request the book I have written on this here). This is when your situation becomes even more unique.Most retirees without pensions see themselves falling into lower tax brackets. But pensioned retirees often don't, as their pension keeps their income high.Your Social Security is taxed more, your Medicare costs more, and required minimum distributions (RMDs) can push your income even higher in retirement.In fact, most retirees with a pension end up in the same or higher tax bracket in retirement than when they were working. This alone is an important reason to think differently about your tax allocation.Tax-deferred accounts include:This is where most retirees have stacked their savings for decades. Contributions reduced their taxable income, and back in the 1970s and 1980s, when top tax rates were around 70% , that made perfect sense.But here's the issue today: Tax rates are historically low right now, and your withdrawals will be taxed in the future, possibly at higher rates.When your $10,000 contribution grows to $100,000, you don't pay taxes on the $10,000; you pay it on the $100,000. And once RMDs kick in at the age of 73 or 75, the IRS forces withdrawals whether you need the income or not.A pension plus RMDs plus Social Security, and many retirees are shocked to find themselves:This bucket includes Roth IRAs, Roth 401(k)s, Roth 403(b)s and other employer plans that offer Roth options. Here, growth and withdrawals are tax-free. And there are no RMDs.So why don't more retirees have money in this bucket? Because these options weren't around for most of their working years. Roth IRAs became available in 1998, and Roth 401(k)s began in 2006, though many employers didn't add Roth features to their plans until much later.The good news? There's still a way to fill the tax-free bucket through something called a Roth conversion. This is one of the most powerful strategies available to pension holders, as it allows you to move money from the tax-deferred bucket into the tax-free bucket.You pay the taxes when you move the money, at today's historically low rates, and avoid paying taxes later, when:Also, if you pass, your spouse's filing status would go from married filing jointly to single. This change can cause the surviving spouse to have to pay nearly double the taxes compared to what they were paying, known as the "widow's penalty." A Roth conversion now spares the surviving spouse from those higher taxes.For many in the 2% Club, today's environment is a once-in-a-lifetime opportunity to convert strategically while we have lower tax rates because of the One Big Beautiful Bill Act (OBBBA).This bucket includes:Here's why this bucket matters: Taxable accounts create planning flexibility. Capital gains may be taxed, depending on income, at 0%, 15% or 20%.Taxable accounts can be used to:Looking for expert tips to grow and preserve your wealth? Sign up for Adviser Intel, our free, twice-weekly newsletter.Imagine entering retirement with:Every dollar you withdraw would inflate your taxable income. Every increase in income would trigger new taxes, and every tax increase would reduce the value of your pension.Now, imagine having money in all three tax buckets and being able to control which bucket you pull from, depending on:This isn't just tax diversification, it's retirement income flexibility.But this doesn't happen accidentally. It happens with an intentional strategy. And the sooner you structure a plan, the more options you'll have.This article was written by and presents the views of our contributing adviser, not the Kiplinger editorial staff. You can check adviser records with the SEC or with FINRA.Profit and prosper with the best of Kiplinger's advice on investing, taxes, retirement, personal finance and much more. Delivered daily. Enter your email in the box and click Sign Me Up.Joe F. Schmitz Jr., CFP®, ChFC®, CKA®, is the founder and CEO of Peak Retirement Planning, Inc., which was named the No. 1 fastest-growing private company in Columbus, Ohio, by Inc. 5000 in 2025. His firm focuses on serving those in the 2% Club by providing the 5 Pillars of Pension Planning. Known as a thought leader in the industry, he is featured in TV news segments and has written three bestselling books: I Hate Taxes (request a free copy), Midwestern Millionaire (request a free copy) and The 2% Club (request a free copy).Investment Advisory Services and Insurance Services are offered through Peak Retirement Planning, Inc., a Securities and Exchange Commission registered investment adviser able to conduct advisory services where it is registered, exempt or excluded from registration.