5 ways to get tax-free income in retirement

Navigating retirement can be filled with uncertainty, especially with future tax rates. One of the most effective ways to simplify your planning is to establish sources of tax-free retirement savings that provide a steady stream of tax-free retirement income. This approach ensures that a portion of your savings is yours to keep, regardless of changes in federal or state tax laws.

To help bring more certainty to your retirement, here are five common sources of income you can access with significant tax advantages, starting with federal income taxes. We'll explore each of these in greater detail throughout the article.

• Roth 401(k)s and Roth IRAs: These accounts allow you to pay taxes now, ensuring all qualified withdrawals in retirement—both contributions and earnings—are completely tax-free.
• Health Savings Accounts (HSAs): Contributions are tax-deductible, funds grow tax-free, and withdrawals for qualified medical expenses are tax-free, making it a powerful tool for covering healthcare costs in retirement.
• Municipal bonds: The interest earned from these bonds is exempt from federal income tax. Depending on your state, it might also be free from state and local taxes.
• Life insurance policies: The death benefit is generally not subject to federal income tax. Some permanent life insurance policies also allow for tax-free withdrawals up to the amount of premiums paid.
• Social Security benefits: Depending on your income level, a portion of your Social Security benefits may be tax-free. At a minimum, at least 15% of your benefits will be exempt from federal income tax.

By understanding how these tools work, you can add a layer of certainty to your retirement plan and ensure you have a dependable source of income for your future. Let's dive deeper into each of these options to see how they can work for you.

1. Roth IRA or Roth 401(k) withdrawals

With traditional 401(k) plans and traditional IRAs, you contribute money before it's taxed. This means your contributions are tax-deductible, lowering your taxable income for the year. Your investments then grow tax-free.

The catch is that these are tax-deferred accounts. You don't pay taxes now, but you will pay income tax on your withdrawals in retirement. Since no one knows what future tax rates will be, this creates a lot of uncertainty for your long-term financial planning.

Federal income tax rates are currently at historically low levels and could rise in the future. A significant increase could reduce your retirement income, potentially leaving you with less than you anticipate.

If you want tax-free retirement income, you’ll need to use a different version of these retirement accounts.

By making contributions with after-tax dollars, Roth 401(k)s and Roth IRAs offer a significant advantage: all qualified withdrawals in retirement—including both your original contributions and any investment earnings—are completely free of federal income tax. This eliminates the uncertainty of future tax rates, ensuring the money you see in your account is the money you get to keep.

2. Municipal bond income

Beyond retirement accounts, another way to generate tax-free income is through municipal bonds. These are debt securities issued by state and local governments to fund public projects. The interest income you earn from municipal bonds is currently exempt from federal income tax, and it may also be exempt from state and local taxes if you live in the issuing state.

State or local tax-free income

State and local tax treatment of municipal bonds varies. While many states and localities provide a "double tax-free" benefit—meaning the interest is exempt from both federal and state/local income tax—this typically only applies if you invest in bonds issued by your own state or municipality.

If you invest in a municipal bond from a different state, you will likely have to pay state or local income tax on the interest, even though it remains federal income tax-free. However, if you live in a state with no income tax, this is not a concern, and you can invest in municipal bonds from any state without incurring state-level taxes.

Always check your specific state and local tax laws to understand how municipal bonds will be treated for your tax situation.

3. Health Savings Account (HSA) withdrawals

A Health Savings Account (HSA) is a powerful tool with a unique "triple tax advantage." It's one of the few accounts where you can contribute pre-tax, invest for tax-free growth, and withdraw the money tax-free for qualified medical expenses.

How it works:

• Pre-tax contributions: Money you put into an HSA is tax-deductible, reducing your taxable income for the year.
• Tax-free growth: The funds grow tax-free. Many HSA providers allow you to invest this money, potentially accelerating its growth.
• Tax-free withdrawals: Withdrawals for qualified medical expenses are completely tax-free, even in retirement. Since healthcare costs are often a significant expense in your later years, an HSA can be an excellent way to prepare for them.

After age 65, you can withdraw the money for any reason without a penalty, though withdrawals for non-medical expenses will be taxed as ordinary income. If you withdraw funds for non-medical expenses before age 65, you'll be subject to a 20% penalty in addition to income taxes.

Eligibility requirements:

To contribute to an HSA, you must be enrolled in a High-Deductible Health Plan (HDHP). The specific definitions change annually. For the year 2025, an HDHP is defined as a plan with:

• A minimum deductible of at least $1,650 for a single person or $3,300 for a family.
• An out-of-pocket maximum of no more than $8,300 for a single person or $16,600 for a family.

If you are eligible, the contribution limits for 2025 are $4,300 for individual coverage and $8,550 for family coverage.

4. Life insurance cash-outs

Life insurance death benefits generally provide a tax-free payout to the beneficiary. However, there are a few scenarios where this could change:

• Employer-provided coverage: If your employer provides group life insurance and pays for a portion of the policy, any death benefit above $50,000 may be considered taxable income to the beneficiary.
• Policies purchased with pre-tax dollars: If you pay for a policy with pre-tax money, such as through a cafeteria plan, the death benefit may be fully or partially taxable.

For most personally owned policies where premiums are paid with after-tax dollars, the death benefit is received tax-free by the beneficiary.

Whole life or permanent life insurance

Another way to access tax-advantaged funds from a whole or permanent life insurance policy is through its cash value. These policies accumulate a cash value over time that you can access in a couple of ways:

• Policy loans: You can borrow against the cash value of the policy. These loans are generally not considered a taxable event. However, if the loan is not repaid and the policy lapses, the outstanding loan balance could become taxable.
• Withdrawals or surrenders: You can withdraw funds from the policy or surrender it entirely for its cash value. Withdrawals are generally income tax-free up to the amount of premiums you've paid into the policy (your "cost basis"). Any amount withdrawn in excess of your cost basis is considered taxable income.

It's important to be cautious: cashing out the policy in full will terminate the coverage, meaning the death benefit will no longer be paid out. Always consult with a tax professional to understand the specific tax implications for your situation before making any decisions.

5. Social Security benefits

Depending on your situation, your Social Security benefits may be tax-free in retirement.

The taxation of your Social Security benefits depends on your total income. To determine if your benefits are taxable, you must first calculate your "provisional income." This is the sum of your adjusted gross income (AGI), any tax-exempt interest, and half of your annual Social Security benefits.

The taxability of your benefits is then determined by comparing your provisional income to the following thresholds:

• If you file as single, head of household, or qualifying widow(er):
  • Provisional income between $25,000 and $34,000: Up to 50% of your Social Security benefits may be taxable.
  • Provisional income above $34,000: Up to 85% of your Social Security benefits may be taxable.

• If you file as married filing jointly:
  • Provisional income between $32,000 and $44,000: Up to 50% of your Social Security benefits may be taxable.
  • Provisional income above $44,000: Up to 85% of your Social Security benefits may be taxable.

If your provisional income is below the first threshold for your filing status, your Social Security benefits are entirely tax-free. In any scenario where your benefits are taxed, at least 15% of your Social Security income will remain tax-free.

Tax-free retirement income helps predictability

Having a source of tax-free retirement income simplifies your financial planning by removing the uncertainty of future tax rates. When a portion of your savings is shielded from taxes, you know exactly how much you'll have to spend, regardless of how high tax rates climb.

However, it's generally not wise to have all your retirement savings in tax-free accounts. A blend of tax-free and tax-deferred income can be a powerful strategy. By having some money in a traditional 401(k) or IRA, you can strategically withdraw taxable income in retirement to take advantage of tax benefits like the standard deduction, lower income tax brackets, or tax credits. You can then use your tax-free income to cover the rest of your spending needs.

Ultimately, a balanced approach allows you to use today's tax laws to your advantage while also preparing for an uncertain tax future. The right mix depends on your personal situation and retirement goals.

Frequently asked questions

Do I have to pay taxes on retirement income?

Taxes on retirement income depend on the source. Withdrawals from traditional retirement accounts (e.g., 401k, IRA) and pensions are generally taxed, as are a portion of Social Security benefits. Withdrawals from Roth accounts are tax-free because you paid taxes on the contributions.

At what age do you stop paying taxes on retirement income?

There is no specific age at which you automatically stop paying taxes on retirement income. Whether or not you owe taxes on your retirement income depends on your total income, filing status, and the source of that income. However, there are a variety of tax exemptions, deductions, and credits available to seniors that can significantly reduce their tax liability, sometimes to zero.

How much money can a retired person make without paying taxes?

In 2025, a single retired person who is 65 or older can earn up to $23,750 in gross income without paying federal income tax, while a married couple (where both are 65 or older) can earn up to $46,700. These amounts are a result of the standard deduction and an additional deduction for seniors.

Do I have to pay federal taxes on my monthly pension payments?

Pension payments are typically subject to federal income tax, but your tax liability depends on your total income and filing status. If your total income for the year is below the standard deduction for your age and filing status, you may not owe any federal income tax.

Do pensions count as earned income?

No, pension payments are not considered "earned income" for federal tax purposes. The IRS defines earned income as wages, salaries, and net earnings from self-employment. While pensions are typically taxable, they are classified as "unearned income." This distinction can be important for certain tax credits, such as the Earned Income Tax Credit (EITC), which requires earned income to qualify.