Tax Considerations Before Retirement: Tax Diversification

Tax diversification means spreading your retirement savings across accounts that are taxed in different ways. It's about giving yourself control over taxes in retirement, instead of the IRS. Most people have nearly everything in one place, usually a traditional 401(k) or IRA. That works while you are saving. But, it can cost you later, when every dollar you withdraw is taxed as ordinary income. Building savings across tax-deferred, tax-free, and taxable accounts gives you options.

What is Tax Diversification?

Tax diversification is when you hold money in different accounts with different tax treatments. Think of it as three buckets.

The first bucket is tax-deferred. This is your traditional 401(k) or IRA. You get a deduction now, your money grows without annual taxes, and you pay ordinary income tax on every dollar you withdraw later.

The second bucket is tax-free. This is your Roth 401(k) or Roth IRA. You pay tax on the money now, it grows with no further tax, and qualified withdrawals come out tax-free.

The third bucket is taxable. This is a standard brokerage account. There is no upfront deduction; you pay tax on dividends and gains along the way, and profits on investments held more than a year are taxed at lower long-term capital gains rates.

When you retire with money in all three buckets, you decide which bucket to draw from each year. That control is what lowers your lifetime tax bill.

Real estate can add a further layer of diversification with its own tax treatment, but the three buckets above are the foundation.

How to Build Tax Diversification

You build tax diversification by spreading your assets across tax-deferred, tax-free, and taxable accounts. True tax diversification means your money lives in all three buckets, not just one or two. There are a handful of ways to build tax diversification before retirement.

Start With Your Tax-Deferred Accounts

Your traditional 401(k) or IRA is likely your largest account. For 2026, you can contribute up to $24,500 to a 401(k), 403(b), or 457 plan. If you are 50 or older, you can add an $8,000 catch-up, for a total of $32,500. If you are between 60 and 63, the catch-up rises to $11,250, for a total of $35,750.

Governmental 457 plans have a special pre-retirement catch-up. During the three consecutive years before you reach the plan's normal retirement age, you can contribute up to twice the standard baseline limit (meaning up to $49,000 for 2026), provided you under-contributed in earlier years.

These contributions lower your taxable income today. The trade-off comes in retirement. Withdrawals are taxed as ordinary income, and required minimum distributions eventually force money out whether you need it or not.

Consider Roth Contributions

Roth accounts fill your tax-free bucket. You contribute after-tax dollars, so there is no deduction today. In exchange, qualified withdrawals in retirement are tax-free, and Roth IRAs carry no required minimum distributions during your lifetime. For someone who expects tax rates to rise, or who wants a tax-free source to draw from in higher-income years, the Roth is worth a close look.

Can I Contribute to a Roth 401(k)?

Some 401(k) plans allow Roth contributions. Not all do. Check with your plan administrator, or look for a Roth or after-tax deferral option in your plan portal. A Roth 401(k) has no income limit, so even high earners who cannot contribute to a Roth IRA can use one when the plan offers it.

What is the Roth 401(k) Contribution Limit Over 50?

A Roth 401(k) shares the same contribution limit as a regular 401(k), because they are the same account with two tax treatments. For 2026, that limit is $24,500. If you are 50 or older, you can add the $8,000 catch-up, for $32,500 total. If you are 60 to 63, the catch-up is $11,250, for $35,750 total. You can split that limit between Roth and pre-tax dollars in any mix you choose; however, only you can make Roth contributions. Any employer match or profit sharing is made pre-tax.

Roth 401(k) contributions are made with after-tax dollars. They are not tax-deductible. That's how you get tax-free income in retirement. You pay the tax now so the money, and its growth, can come out tax-free later.

One note for higher earners: starting in 2026, if you earned more than $150,000 in wages from your employer the prior year, your catch-up contributions must go into the Roth side of the plan. Consult your tax advisor on how this applies to you.

What is the Roth IRA Contribution Limit Over 50?

For 2026, you can contribute $7,500 to a Roth IRA. If you are 50 or older, you can add a $1,100 catch-up, for a total of $8,600. This limit is shared across all of your IRAs, traditional and Roth combined.

Roth IRAs have income limits. For 2026, the ability to contribute phases out between $153,000 and $168,000 of modified adjusted gross income for single filers, and between $242,000 and $252,000 for married couples filing jointly, per the IRS. Above those ranges, you cannot contribute directly. IRA eligibility rules are detailed and change often, so consult your tax advisor before you contribute.

What are the Benefits of a Roth 401(k)?

A Roth 401(k) combines the high contribution limit of a workplace plan with the tax-free growth of a Roth. The main benefits to consider:

• Qualified withdrawals in retirement are tax-free.
• The contribution limit is far higher than a Roth IRA.
• There is no income limit to participate.
• Employer matching is still available, though the match goes into the pre-tax side of the account.
• It gives you a tax-free bucket to draw from to help manage your tax bracket in retirement.

Whether a Roth makes sense depends on your current tax rate compared with your expected rate in retirement. That is a personal calculation, and a good reason to consult a financial planner. At Voyage, we help clients balance tax savings today and tax savings in retirement.

Plan Roth Conversions

What is a Roth Conversion?

A Roth conversion moves money from a tax-deferred account, like a traditional IRA or 401(k), into a Roth account. You pay ordinary income tax on the amount you convert in the year you convert it. From then on, the money grows tax-free, and qualified withdrawals in retirement are tax-free. In bucket terms, you are moving money out of the bucket taxed later and into the never taxed again bucket.

Think of it as paying tax on the seed instead of the harvest. You accept a known tax bill today to remove an unknown one in retirement.

There is no income limit on a conversion. Even if you earn too much to contribute to a Roth IRA directly, you can still convert. There is also no cap on how much you can convert in a year. You could convert $10,000 or $500,000. The only real constraint is the tax bill, because the amount you convert is added to your taxable income for the year.

One thing a conversion is not: reversible. Since 2018, you cannot undo or recharacterize a Roth conversion. Once it is done, it is done. That is why the timing and the amount are worth planning carefully with a fee-only fiduciary.

How to do a Roth Conversion?

The mechanics are simple. The planning is where the value is.

1. Decide how much to convert. This is usually driven by how much room you have left in your current tax bracket, not by your account balance.
2. Instruct your custodian to move the dollars from your traditional IRA or 401(k) into your Roth. An in-plan conversion inside a 401(k) is only available if your plan allows it.
3. Pay the tax from outside money. Ideally the tax bill comes from a taxable account, not from the converted dollars. Using converted dollars to pay the tax shrinks the amount that gets to grow tax-free, and can trigger a penalty if you are under 59 and a half.
4. Report it at tax time. The pre-tax amount you convert shows up as taxable income on a 1099-R and IRS Form 8606.

Two rules to understand before you convert:

• The pro-rata rule. If you hold both pre-tax and after-tax dollars across your traditional IRAs, the IRS treats every conversion as a proportional mix of the two. You cannot convert only the after-tax dollars. All of your traditional, SEP, and SIMPLE IRAs are counted together for this calculation.
• The five-year rule. Each conversion starts its own five-year clock. If you are under 59 and a half and withdraw converted dollars before five years pass, you can owe a penalty.

If you are already taking Required Minimum Distributions (RMDs), you must take your RMD for the year before you convert. An RMD itself cannot be converted. Because these rules interact, this is a good step to walk through with your tax advisor.

When is it Smart to do a Roth Conversion?

There is no single right answer. It comes down to your tax rate today compared with the rate you expect later. A conversion tends to be worth considering in situations like these:

• A low-income year. The gap between when your paycheck stops and when Social Security and Required Minimum Distributions begin is often the lowest-tax window of your life. Converting then can fill up a lower bracket at today's rate.
• A market downturn. When account values are down, the same shares convert at a lower tax cost. If they recover, the recovery happens inside the tax-free bucket.
• Reducing future Required Minimum Distributions. Dollars you move to a Roth are no longer subject to required minimum distributions, which can lower the taxable income, and the tax bracket, you face later in retirement.
• Estate planning. Most heirs who inherit a traditional IRA must empty it within 10 years and pay income tax along the way. This can be especially difficult if your heirs are in higher tax brackets. A Roth inherited under the same rule comes out tax-free.

A conversion is not free, and the cost can reach beyond your income tax. Adding income in one year can raise your Medicare premiums through IRMAA (the income-related surcharge on Medicare premiums), increase how much of your Social Security is taxed, and push you toward the 3.8% net investment income tax. That is exactly the kind of multi-year tradeoff a fee-only fiduciary and your tax advisor can model with you before you commit.

Look at Taxable Brokerage Accounts

The taxable brokerage account fills your third bucket. It may be the most overlooked vehicle for retirement savings.

What is a Taxable Brokerage Account?

A taxable brokerage account is a standard investment account with no special tax status. You fund it with after-tax dollars and invest in stocks, funds, bonds, and other securities. There is no deduction going in, and no tax shelter while it grows.

Capital Gains Tax

When you sell an investment in a taxable account for more than you paid, you owe capital gains tax on the profit. Whether you pay income tax or capital gains tax depends on how long you held it. Investments held one year or less are taxed at short-term rates, which match your ordinary income tax bracket. Investments held more than a year are taxed at long-term capital gains rates, which are lower. The figures below are 2026 federal rates and do not include state tax.

Capital Gains Tax Brackets

A 3.8% net investment income tax may also apply once modified adjusted gross income passes $200,000 for single filers or $250,000 for married couples filing jointly.

Source: Internal Revenue Service

Taxable Brokerage Accounts, Advantages and Disadvantages

The disadvantage is that it is not a retirement account, so you lose tax-deferred growth. That disadvantage is also its advantage. These accounts are not subject to contribution limits, penalties for early withdrawals, or income limits. You could contribute $50 or $5 million. You could use it for an early retirement at age 50, or never touch it and let your children receive a step-up in basis.

What is Tax Loss Harvesting?

Although the tax is assessed annually, you can keep the account tax-efficient by using capital losses to offset capital gains. When you sell an investment at a loss, that loss first offsets your gains for the year. If your losses are larger than your gains, you can deduct up to $3,000 of the remaining loss against your ordinary income, or $1,500 if you are married filing separately. Anything beyond that carries forward to future years. This strategy, known as tax-loss harvesting, has specific rules, including the wash-sale rule, so consult your financial or tax advisor before acting.

Health Savings Accounts (HSA)

The three buckets are your foundation; the Health Savings Account, or HSA, is a fourth bucket in a class of its own. It is the only account that can be tax-free at every stage: going in, while it grows, and coming out for qualified medical costs. The catch is that it is tied to your health coverage, so not everyone can use one, and the rules reward starting early.

What is a Health Savings Account?

A Health Savings Account is a tax-advantaged account used to save and pay for qualified medical expenses. To contribute, you must be covered by a high-deductible health plan, or HDHP, and carry no other disqualifying coverage. You also cannot be enrolled in Medicare or be claimed as someone else's dependent.

Unlike a flexible spending account, an HSA is not use it or lose it. The balance rolls over every year, the account stays yours if you change jobs or retire, and you can invest the funds so they grow over time. There are no required minimum distributions. That combination is what lets an HSA double as a long-term retirement account, not just a way to cover this year's deductible.

Triple Tax Advantage

The HSA earns its reputation from three tax breaks stacked on top of one another:

1. Contributions go in tax-free. You either deduct them on your return or contribute through payroll before tax. Payroll contributions also avoid FICA tax, which most other retirement accounts do not.
2. The money grows tax-free. Interest, dividends, and investment gains inside the account are not taxed year to year.
3. Withdrawals come out tax-free, as long as they pay for qualified medical expenses.

No other account offers all three at once. A traditional 401(k) taxes you on the way out. A Roth taxes you on the way in. An HSA, used for medical costs, can avoid taxes entirely.

Once you turn 65, you can withdraw HSA funds for any reason without the 20 percent penalty that otherwise applies. Money used for non-medical costs is simply taxed as ordinary income, the same as a traditional IRA. Money used for medical costs stays tax-free. The rules on what counts as a qualified expense are specific, so keep good records and consult your advisor.

How Much Can I Contribute to HSA?

According to the IRS, for 2026, you can contribute up to $4,400 with a self-only High Deductible Health Plan (HDHP) coverage, or $8,750 with family coverage. If you are 55 or older, you can add a $1,000 catch-up. Note the age. The HSA catch-up starts at 55, not 50 like your 401(k) and IRA.

The catch-up is per person, so a married couple who are both 55 or older needs an HSA in each spouse's name to make two catch-up contributions. Any money your employer contributes counts toward the same annual limit. And if you are only eligible for part of the year, for example because you enroll in Medicare midyear, your limit is generally prorated. Because these rules have moving parts, confirm your own number with your financial advisor.

Using Health Savings Account to Pay for Medicare

While you cannot contribute to your Health Savings Account (HSA) while you are enrolled in Medicare, you can use HSA funds to pay Medicare premiums. Saving into an HSA while you're working creates a purely tax-free bucket for medical expenses and medicare premiums in retirement.

Building tax diversification takes years, not one tax season. The earlier you start funding all three buckets, the more control you have when retirement arrives. If you want to see how your own accounts are positioned and what that means for retirement, that is the kind of question we help families work through.