Tax Planning in the Retirement Income Valley

What Is the Retirement Income Valley?

The income valley is the stretch of time after you stop working — starting in your retirement year — when your earned income drops sharply. During this period, income from Social Security, a pension, or tax-deferred retirement accounts may not have started yet, or may be lower than it will be in future years.

This valley can last several years. How long depends on when you retire, when you claim Social Security, when pensions begin, and when required minimum distributions (RMDs) kick in from accounts like traditional IRAs and 401(k)s.

Because your taxable income is temporarily low, this window is a valuable opportunity to shift future income into lower tax brackets — before higher income forces you into higher ones.

Why RMDs and Social Security Timing Matter

Two dates shape the income valley more than any others:

• Your retirement date — the day earned income stops or drops.
• The date RMDs must begin — the IRS requires withdrawals from tax-deferred accounts (traditional IRAs, 401(k)s) starting at a set age, whether you need the money or not.

Social Security timing also plays a big role. Full retirement age for most workers today is 67. Claiming between age 62 and 66 permanently reduces your monthly benefit. Waiting until age 70 increases it by about 8% per year beyond full retirement age. For retirees in good health with enough savings to bridge the gap, delaying to 70 often produces a higher lifetime payout.

Delaying Social Security also extends the income valley — giving you more time to use low-tax strategies.

Six Strategies to Use During the Income Valley

1. Shift final pre-retirement savings to Roth. If you retire partway through the year, consider switching 401(k) contributions to a Roth 401(k) at the start of that year (if your employer allows it). With less income that year, you may not need the immediate tax break from a traditional contribution. Paying taxes upfront at a lower rate can save money later.

2. Do Roth conversions. Converting money from a traditional IRA or pre-tax 401(k) to a Roth account during low-income years is one of the most powerful strategies available. Converted amounts are removed from future RMD calculations, reducing the forced withdrawals — and tax bills — that come later. Qualified Roth withdrawals are tax- and penalty-free once you are 59½ or older and the five-year rule is met.

3. Withdraw from tax-deferred accounts early. Even if you don't need the money right away, taking modest withdrawals from traditional IRAs or 401(k)s during low-income years can shrink future RMDs and smooth out your tax bill over time.

4. Delay Social Security. Waiting to claim Social Security until age 70 keeps your taxable income lower for longer, giving you more room to do Roth conversions or harvest gains at lower tax rates. Once Social Security begins, up to 85% of those benefits may become taxable depending on your total income.

5. Manage work-related income carefully. The year before retirement matters. Bonuses, restricted stock units (RSUs), severance, deferred compensation payouts, and pension start dates all affect your taxable income. A single day's difference in your retirement date can shift a payout by a full year. Review company policies and key deadlines at least a year before you plan to retire.

6. Consider tax-gain harvesting. Tax-gain harvesting means intentionally selling investments with long-term gains to fill up the 0% capital gains tax bracket. For a married couple filing jointly, that bracket covers taxable income (after deductions) up to a set threshold. Unlike tax-loss harvesting — which only defers a tax bill — tax-gain harvesting can eliminate it entirely.

Income Thresholds to Watch

Bringing too much income into the income valley can backfire. Several thresholds can trigger extra costs:

• IRMAA (Medicare surcharge): If your modified adjusted gross income (MAGI) exceeds a certain level, Medicare charges a surcharge on Part B (medical coverage) and Part D (drug coverage) premiums. The surcharge is based on your tax return from two years prior, so a high-income year now can raise Medicare costs later.

• Premium tax credit: If you retire before age 65 and buy health insurance through the marketplace, your MAGI must fall within a specific range to qualify for premium subsidies. Managing income carefully during those pre-Medicare years can mean significant savings on health insurance.

• Social Security taxation: Other income — such as Roth conversions or investment gains — in the same year as Social Security benefits can cause up to 85% of those benefits to become taxable.

• Senior tax deduction (2025–2028): People age 65 and older can claim a new $6,000 deduction. It phases out when individual MAGI reaches $75,000, or $150,000 for couples filing jointly. Pushing income above those levels — through a large Roth conversion or early Social Security claim — could reduce or eliminate this deduction.

• Net investment income tax (NIIT): Single filers with MAGI above $200,000 and married joint filers above $250,000 owe an extra 3.8% tax on investment income (dividends, interest, capital gains, rental income). These limits are not adjusted for inflation.

Putting It All Together

Not every strategy will fit every situation, and some can compete with each other. For example, a large Roth conversion might trigger IRMAA surcharges or reduce the senior tax deduction.

The income valley is a limited window. Once RMDs begin and Social Security starts, the flexibility shrinks. Taking action early — ideally in the year of retirement or even the year before — gives retirees the most options.

Working with a tax professional or financial planner can help model different scenarios and find the right balance between reducing taxes now, protecting benefits, and meeting longer-term goals for income and legacy. Always confirm details with a qualified professional, as tax rules and income thresholds can change.