Wendy Bennett

When is it possible that you’ll be penalized if you become widowed? Within the nuances of the Internal Revenue Code. Our federal tax code contains inherent tax penalties, called the Widow’s Tax Penalty, that can leave a surviving spouse worse off financially. Understanding that these pitfalls exist can better prepare you to take action to help keep widows and widowers financially stable.

During your senior years, both spouses are typically collecting Social Security. Upon the passing of one spouse, the smaller of these benefit checks will disappear and the larger one will remain.

In addition, if your household is receiving a pension, the default by law is that the surviving spouse who did not earn the pension will receive 50% of that amount unless other options were chosen upon retirement.

For these reasons, income to the surviving spouse is reduced, yet the surviving spouse often pays more taxes. Why? Because the remaining income hits higher tax brackets at a faster rate for a single taxpayer resulting in a larger portion of their income being subject to taxation. There are other factors at play as well.

Considering the fact that the majority of a household’s investments often lie within a traditional IRA or 401(k), and spouses tend to be the primary beneficiary of those assets, the surviving spouse will need to withdraw a required minimum distribution (RMD) each year once reaching the appropriate age.

Tax laws surrounding RMDs require that an increasing percentage of the nest egg be distributed each year, and these distributions could push the surviving spouse into increased marginal and effective tax brackets. There is yet another potential unforeseen penalty linked to the lower triggering income levels for single filers — the Medicare premium surtax, also known as IRMAA (income-related monthly adjustment amount). Once income hits certain levels, this surtax is triggered. The higher income, the higher this surtax.

Married spouses often believe their retirement finances are secure, but what they haven’t projected is what happens after one spouse passes away. Generally, the results are the same regardless of which spouse passes away first: income declines while taxes and other expenses increase.

So, how do you prevent decreased financial security in widowhood? You could spend less in the preceding years to ensure more money is available for the solo years.

Another strategy is to increase future tax-free income by converting a traditional IRA to a Roth IRA. Pay the taxes now at the lower married filing jointly rate to provide tax-free income in the future when the surviving spouse is likely to be in a higher income tax bracket as a single taxpayer.

Also, you could buy permanent life insurance to provide a lump sum of tax-free cash to the surviving spouse.

The 19th century French author Charles Baudelaire is credited with saying, “In putting off what one has to do, one runs the risk of never being able to do it.” Take heed that you can reduce the risk to your loved one by recognizing the situation and planning for it instead of leaving your surviving spouse to deal with the unintended consequences of the Widow Tax Penalty.

Wendy Bennett is a senior financial adviser at Bennett Associates Wealth Management in Butler.