Withdrawal Sequencing: Tax-Aware Strategies and Sequence-of-Returns Risk

What is withdrawal sequencing and why does it matter for retirement income?

Withdrawal sequencing is the deliberate plan for which accounts (taxable, tax-deferred, Roth/tax-free) you draw on and when. It’s designed to minimize lifetime taxes, manage required minimum distributions (RMDs), and reduce sequence-of-returns risk so your retirement income lasts.

Why withdrawal sequencing matters

Retirement income is not just how much you have—it’s how you take it. Withdrawal sequencing decides the order in which you spend assets from taxable brokerage accounts, tax-deferred accounts (401(k), traditional IRA), and tax-free accounts (Roth IRAs). The order affects:

  • Lifetime tax bills and marginal tax brackets (affecting Medicare premiums and Social Security taxation). (IRS.gov; CMS.gov)
  • Required minimum distributions (RMDs) timing and size—SECURE 2.0 raised the RMD age to 73 for those who reach 72 after 2022. (IRS.gov)
  • Exposure to sequence-of-returns risk if large withdrawals coincide with market downturns.

Taken together, sequencing choices can change how long a portfolio lasts and how predictable retirement cash flow is.

How withdrawal sequencing affects taxes and benefits

Key tax and benefit interactions to understand:

  • Taxable accounts: Withdrawals often trigger capital gains tax (long-term vs. short-term). Using taxable accounts first can preserve tax-advantaged growth but may accelerate capital gains realization. (IRS.gov)

  • Tax-deferred accounts (traditional 401(k), IRA): Withdrawals are ordinary income and can push you into higher tax brackets. Large withdrawals can also increase the portion of Social Security benefits that are taxable and raise Medicare Part B and D premiums (IRMAA). (IRS.gov; CMS.gov)

  • Roth accounts: Qualified withdrawals are tax-free and do not affect RMDs for the owner (Roth IRAs themselves are not subject to RMDs during the owner’s lifetime). Roth conversions create taxable income in the year of conversion but can reduce future RMDs and future taxable income. (IRS.gov)

  • Timing matters: Low-income years (e.g., early retirement before Social Security or RMDs start) are often the best time for Roth conversions or larger distributions from tax-deferred accounts because effective tax rates can be lower.

Common sequencing approaches — pros and cons

  1. Taxable-first (spend taxable brokerage accounts before tax-deferred):
  • Pros: Delays ordinary-income taxation, allows tax-advantaged accounts more time to grow; supports Roth conversion strategies in low-income years.
  • Cons: Realizing capital gains may create tax events; may not help if you need to manage short-term income for Medicare/SSI rules.
  1. Tax-deferred-first:
  • Pros: Keeps taxable investments invested for liquidity or lower capital gains if you can accept paying ordinary income taxes earlier; could be useful to avoid capital gains realization in taxable accounts.
  • Cons: Can accelerate income into higher tax brackets and push up RMDs and Medicare IRMAA triggers.
  1. Roth-first (spend Roths early):
  • Pros: Tax-free withdrawals simplify cash flow and reduce future RMD pressure for heirs; can be ideal when taxable account growth is limited and you want predictable tax-free spending.
  • Cons: Using Roths early removes tax-free growth potential later; Roths are especially valuable if you expect higher tax rates in the future.
  1. Blended/dynamic approach:
  • Use a flexible mix of the above methods based on yearly taxes, market returns, health and spending needs. This is the most practical approach for many households.

In my practice I often recommend a dynamic blend: use taxable funds for early needs while opportunistically converting modest amounts from tax-deferred accounts to a Roth in years with unusually low taxable income.

Sequence-of-returns risk: what it is and why it matters

Sequence-of-returns risk is the danger that poor market returns early in retirement (when you’re withdrawing money) will deplete portfolio value faster than later poor returns would if you weren’t withdrawing. Two retirees earning the same long-term average return can have very different outcomes if returns are front-loaded with losses for the person who is withdrawing.

Example (conceptual): A 60/40 portfolio that loses 20% in year 1 while you withdraw 5% of starting assets will have a much lower base to grow from afterward, increasing the likelihood of running out of money compared with the same portfolio that experiences losses later or when withdrawals are smaller.

Strategies to reduce sequence-of-returns risk

  • Buckets (time segmentation): Keep 2–5 years of spending in cash or short-term bonds (the “cash bucket”), reserve longer-term equity exposure for growth. This reduces the need to sell equities in down markets.

  • Dynamic spending: Adjust withdrawals up or down based on portfolio performance (e.g., floor-and-ceiling rules) rather than fixed-percentage rules.

  • Glidepath & de-risking: Shift allocation more conservatively around retirement, then gradually return to a more growth-oriented mix if that fits goals and longevity assumptions.

  • Hedging and annuitization: Partial annuitization or purchasing a longevity annuity can remove a portion of longevity risk and reduce sequence sensitivity. Annuities come with trade-offs—credit quality, fees, and loss of liquidity.

  • Maintain liquidity: A line of credit or pre-funded emergency cash can prevent selling into a downturn.

  • Roth conversions in down markets: Converting some tax-deferred assets to Roth during market dips can be tax-efficient because conversions are based on asset value (converting when values are depressed means paying taxes on a lower basis and potentially lower tax cost). See our guide to a Roth conversion ladder for tactical details (Roth conversion ladder).

Tax-aware sequencing tactics (practical steps)

  1. Model income and taxes for multiple years: Use a multi-year projection that incorporates Social Security start dates, RMD timing (RMD age 73 under SECURE 2.0 as of 2025), Medicare IRMAA thresholds, and expected long-term returns. (IRS.gov; Medicare.gov)

  2. Identify low-tax conversion windows: Years before RMDs and before Social Security can be ideal for partial Roth conversions. Convert amounts that fill lower tax brackets without pushing you into higher Medicare IRMAA bands.

  3. Prioritize account-location strategies: Hold tax-inefficient investments (taxable bond interest, REITs) in tax-deferred accounts and tax-efficient assets (index funds, ETFs) in taxable accounts to reduce annual taxes.

  4. Manage capital gains harvesting: Use tax-loss harvesting and planned realization of long-term gains when it won’t spike ordinary income.

  5. Coordinate with benefits: Time withdrawals so that Social Security, pensions, and other income streams complement one another and minimize marginal tax impacts.

Practical example (simplified)

  • Age 62 retiree with $500k taxable, $800k traditional IRA, $200k Roth. Social Security starts at 67; RMDs begin at 73.
  • Strategy: Spend taxable first for 3–4 years, use small Roth conversions during those low-income years to take advantage of low tax brackets, then begin systematic withdrawals from the traditional IRA timed to avoid large bracket jumps and minimize RMD shock.

This approach keeps ordinary income low early, preserves tax-advantaged growth, and reduces the probability of large taxable events once RMDs start.

Coordination with other retirement topics

  • If you plan to retire early and bridge until Medicare/Social Security, see our article on Bridging Strategies for Early Retirees Before Medicare and Social Security for practical cash-flow options (Bridging Strategies for Early Retirees Before Medicare and Social Security).

  • If liquidity is a near-term priority for a near-retiree, our piece on Liquidity-Aware Asset Allocation for Near-Retirees explains how to structure assets for both growth and near-term cash needs (Liquidity-Aware Asset Allocation for Near-Retirees).

  • For tactical Roth conversion steps and the multi-year conversion ladder process, review our Roth conversion ladder guide (Roth conversion ladder).

Common mistakes to avoid

  • Treating sequencing as a one-time decision: Annual reviews matter due to market moves, tax-law changes, and life events.

  • Ignoring Medicare IRMAA and Social Security taxation: Large taxable events can raise premiums and taxable Social Security—plan conversions and distributions with these rules in mind. (Medicare.gov; IRS.gov)

  • Over-reliance on a single rule (for example, rigidly following the 4% rule) without stress-testing for sequence-of-returns scenarios. Classic withdrawal rules are starting points, not substitutes for personalized planning.

Checklist before you act

  • Run a 10– to 30‑year projection that includes taxes, RMDs, and Social Security.
  • Identify expected low-income years for Roth conversions or higher distributions.
  • Establish a cash bucket to cover 2–5 years of spending.
  • Coordinate IRA/401(k) distributions with Social Security timing.
  • Consult a tax advisor and fiduciary financial planner before executing conversions or major shifts.

Sources and further reading

  • IRS — Retirement Plans and IRAs overview and distribution rules (IRS.gov)
  • Centers for Medicare & Medicaid Services — Medicare premiums and IRMAA information (Medicare.gov)
  • Consumer Financial Protection Bureau — Resources on retirement income and withdrawal strategies (ConsumerFinance.gov)
  • William Bengen, “Determining Withdrawal Rates Using Historical Data” and the Trinity Study for sequence-of-returns background

Professional disclaimer

This article is educational and does not constitute individualized tax, investment, or legal advice. Rules for IRAs, Roth conversions, Social Security taxation, and Medicare premiums are subject to change; consult a qualified CPA or retirement planner to structure a withdrawal sequence tailored to your situation.

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