If you're one of the many Americans who dream of retiring before the age of 65, you're not alone. However, one crucial aspect often overlooked in the rush to early retirement is the cost of healthcare. Without employer-sponsored insurance, many early retirees find themselves navigating the complex world of private insurance. One of the key strategies to making this transition affordable is to manage your taxable income meticulously.
Understanding the Role of Taxable Income in Private Insurance Subsidies
Healthcare under the Affordable Care Act (ACA) is subsidized based on household income. Essentially, the less you earn, the higher the subsidy you receive. In certain circumstances, you could receive a subsidy that covers 90% or more of your private insurance costs.
It's important to remember that it is your *taxable* income that matters here. This is the amount of income you're required to report to the Internal Revenue Service (IRS), after various deductions and exemptions. It includes all sorts of income like wages, interest income, dividend income, and capital gains.
How Can You Manage Your Taxable Income?
Now you might be wondering, "How can I reduce my taxable income without necessarily reducing my expenses?" Here are some strategies:
Control Your Interest Income
If a good portion of your taxable income comes from interest income, consider moving some of your money into tax-free municipal bonds. The interest earned from these bonds is generally exempt from federal income taxes, and in some cases, from state and local taxes as well. Another strategy could be to move any investments that are giving you interest/dividends into IRAs so that the income is tax-deferred and not counted as taxable income.
Manage Your Dividend Income
Some dividends are qualified and taxed at the lower long-term capital gains tax rate. Non-qualified dividends, on the other hand, are taxed at the higher ordinary income tax rate. By investing in stocks that pay qualified dividends, you can reduce your taxable income.
Keep an Eye on Capital Gains
Capital gains tax applies when you sell an investment or real estate for more than you paid. To reduce taxable income, avoid selling investments that have appreciated in value. If you do need to sell, consider pairing the sale with the sale of an investment that has lost value to offset the gain.
Benefits of Keeping Taxable Income Low
By adopting these strategies, you effectively keep your taxable income as low as possible, and hence qualify for a higher healthcare subsidy. For instance, by moving your money into tax-exempt bonds or managing your portfolio to favor qualified dividends, you can significantly reduce your taxable income.
Conclusion
The financial landscape of early retirement can be challenging to navigate. However, by controlling your taxable income, you can secure a meaningful health insurance subsidy, making your dream of retiring early more affordable and sustainable. As you approach retirement, it's more important than ever to make informed, strategic decisions about your finances. An experienced financial adviser can provide invaluable assistance in planning for a successful early retirement. Remember, retirement planning is not just about how much you have in your bank account—it's also about how wisely you manage it.
By: Stewart Fields, CFP®