Your accounts and how they're taxed

During working years, taxes are mostly automatic — withheld from a paycheck before you ever see it. In retirement, that flips. Taxes become a series of choices, because every account you own is a different deal with the government, and you decide which deal each dollar of spending gets. Understanding the three deals — the three tax buckets — is the foundation for everything in the next three chapters.

Bucket one: taxable

A taxable brokerage account is a standard investment account with no special tax treatment and no contribution limits. Interest, dividends, and realized gains are taxed in the year they occur. Two ideas do most of the work here. Cost basis is what you originally paid for an investment; when you sell, only the amount above basis is taxed — the rest is your own money coming back untaxed. And capital gains on assets held longer than a year are taxed at preferential long-term rates, lower than the ordinary rates that apply to wages or IRA withdrawals.

The bucket's real virtue is flexibility: no age rules, no withdrawal requirements, and a sale can be timed to the year it does the least tax damage.

Bucket two: tax-deferred

The traditional IRA, the traditional 401(k), and their workplace cousins hold money that has never been taxed. Contributions went in pre-tax, growth compounds untaxed — and in exchange, every dollar withdrawn is ordinary income, taxed at your regular rates in the year it comes out.

The deferral is a genuine advantage during accumulation, but it is a deal, not a gift: the IRS eventually insists on being paid. Once you reach your required beginning age — 73 for those born 1951–1959, 75 for those born 1960 or later — annual withdrawals become mandatory whether you need the money or not. Those required minimum distributions get all of Chapter 6.

Bucket three: tax-free

The Roth IRA (and Roth 401(k)) reverses the deal: contributions go in after tax, and qualified withdrawals — including all the growth — come out tax-free. Just as important, a Roth IRA has no required minimum distributions during the owner's lifetime, which makes it both the most flexible bucket in retirement and a favored account to leave to heirs.

Money can also move between buckets. A Roth conversion shifts dollars from the tax-deferred bucket to the tax-free one; the converted amount is taxed as ordinary income in the year of the conversion, and in exchange grows tax-free from then on. Whether that trade makes sense turns on a single comparison — the tax rate paid at conversion versus the rate those dollars would otherwise face later — and the years when it tends to pay off are covered in Chapters 4 and 6.

One honorable mention: the health savings account (HSA) is the only account in the tax code with all three advantages at once — deductible going in, untaxed growth, and tax-free withdrawals for qualified medical expenses — which is why many households treat it as a long-term reserve earmarked for health costs in retirement.

The primer that makes bucket two make sense: brackets

Because tax-deferred withdrawals are ordinary income, the federal bracket system decides what they cost. The system is progressive: seven rates from 10% to 37% in 2026, and only the dollars inside each bracket pay that bracket's rate. Crossing into a higher bracket never reduces take-home income — only the dollars above the line pay more. Before any of it applies, the standard deduction ($16,100 single, $32,200 married filing jointly in 2026) shields the first slice of income entirely.

The distinction that matters for planning is marginal versus effective: the marginal rate is the tax on the next dollar; the effective rate is the average across all of them. Decisions like sizing an IRA withdrawal or a Roth conversion are decisions about the next dollar — so they turn on the marginal rate.

Why the mix is the message

Picture the same $10,000 of spending funded three ways. From the taxable account, the tax bill depends on how much of the sale is gain versus basis — often modest. From the traditional IRA, all $10,000 is ordinary income. From the Roth, the tax bill is zero. Same spending, three different prices — and the household chooses.

That choice, repeated every year for decades, is what the next chapter is about: the order you spend from the buckets is itself a tax decision, and one of the most overlooked levers in a retirement plan.

The views and opinions expressed here are those of The Financial Sciences Company as of the publish date and are provided for informational and educational purposes only. They are not personalized investment, tax, or legal advice. The Financial Sciences Company, LLC is an investment adviser registered with the State of Texas. Registration does not imply a certain level of skill or training. Additional information is available in our Form ADV at adviserinfo.sec.gov.

General educational information, current as of 2026. Not personalized investment, tax, or legal advice — figures and rules change. For guidance specific to your situation, talk to a qualified professional.