By Eric Hutter
Why both matter in retirement planning – and how taking income from the wrong accounts early can quietly increase taxes, Medicare costs and long-term planning risk.
Retirees often hear about sequence of return risk, which is the danger of suffering poor market returns in the first several years after retirement. That risk is real because losses early in retirement can permanently damage a portfolio when withdrawals are already being taken. But there is another risk that deserves just as much attention: sequence of withdrawal risk.
Sequence of withdrawal risk is the danger created by taking retirement income from the wrong accounts, in the wrong order, at the wrong time. A retiree may have money in taxable brokerage accounts, traditional IRAs or 401(k)s, Roth accounts, cash reserves, or annuities. Even if the total nest egg is substantial, poor withdrawal sequencing can produce unnecessary taxes, Medicare premium surcharges, higher taxation of Social Security benefits, and less flexibility later in retirement.
Why sequence of return risk gets so much attention
Sequence of return risk is easy to visualize. A client retires, the market drops sharply, and withdrawals continue while the portfolio is down. That double hit – market loss plus ongoing distributions- can permanently impair the portfolio. This is why advisors spend time discussing withdrawal rates, cash buffers, diversification, and income flooring strategies.
Why sequence of withdrawal risk deserves equal attention
What is less obvious is that two clients with the same portfolio value and the same market return experience can end up with very different outcomes based solely on where their income comes from each year. The account selected for distributions affects adjusted gross income, taxation, Medicare premiums, and what planning options remain available in the future. In other words, the order of withdrawals can matter almost as much as the return of the investments.
The IRMAA problem: today’s withdrawal can raise Medicare costs later
One of the clearest examples involves IRMAA, the Income-Related Monthly Adjustment Amount. Medicare Part B and Part D premiums can increase when a retiree’s income rises above certain thresholds. A large distribution from a traditional IRA or 401(k), especially if taken earlier than needed or without coordination, can increase modified adjusted gross income and trigger higher Medicare premiums later. The painful part is that many retirees do not feel the impact immediately. They make the withdrawal now, but the Medicare surcharge often shows up later, making it feel like an unexpected penalty rather than the result of a tax decision.
The Social Security taxation trap
Poor withdrawal sequencing can also increase the taxation of Social Security benefits. Many retirees assume Social Security is largely tax-free, but the actual result depends on combined income. IRA distributions, pension income, interest, dividends, and realized gains push more of the Social security benefit into the taxable column. That means a retiree who pulls heavily from tax-deferred accounts early may not only pay tax on the withdrawal itself, but may also cause more of their Social Security benefit to become taxable. That layered effect often surprises clients.
Loss of future flexibility
Perhaps the biggest long-term cost is the reduction in future flexibility. If a retiree drains taxable accounts too fast, or overuses traditional IRA money early without a deliberate plan, they may later lose the ability to manage bracket levels, perform efficient Roth conversions, respond to widowhood tax changes, or absorb major expenses gracefully. A good retirement income strategy is not just about meeting this year’s cash flow need. It is about preserving choices for the years ahead.
A Short Client Story
David and Karen retired with solid savings, a brokerage account, traditional IRAs, and a small Roth balance. In their first few retirement years, they focused mostly on spending what felt easiest to access: larger IRA withdrawals. On the surface, it seemed reasonable. Their investments were still growing and they had the income they needed.
But by pulling too much from tax deferred accounts too early, they created a string of unintentional consequences. Their taxable income rose, which increased the taxation of their Social Security benefits. A couple of years later, their Medicare premiums rose because their income had crossed into a higher IRMMA range. Meanwhile, the larger IRA withdrawals reduced the opportunity to do more controlled Roth conversions in lower brackets.
When Karen later passed away, David faced an even harder reality. The household lost one Social Security check, but the tax brackets became less favorable because he was now filing as single. With less flexibility left in the account mix, his retirement income became more expensive from a tax standpoint than either of them had expected.
What made the difference was not that David and Karen lacked assets. It was that the withdrawals had to be coordinated with future tax exposure, Medicare premium thresholds and survivor planning. Their experience illustrates a key truth: retirement risk is not only about how markets behave. It is also about how income is sourced.
What better planning can look like
A stronger retirement strategy treats withdrawals as a coordinated tax and income design problem, not just a cash flow transaction. In some years, it may make sense to spend from taxable assets. In others, it may be wise to fill lower tax brackets intentionally with IRA distributions or Roth conversions, In still other years, preserving a certain income threshold may be more important than maximizing a single tactic.
The objective is not to force one rigid order of withdrawals on every client. The objective is to create a flexible framework that takes into account current taxes, future taxes, Social Security taxation, Medicare premiums, required minimum distributions, survivor considerations, and the client’s broader lifestyle goals.
Bottom line
Sequence of return risk can damage a retirement portfolio when markets fall early. Sequence of withdrawal risk can quietly damage a retirement plan even when markets cooperate. That is why retirement income planning should focus not only on investment performance , but also on account selection, tax thresholds, and future flexibility. For many retirees, the difference between a good plan and a great one is not simply what they earn. It is how, when, and from where they take their income.
Osprey Retirement Solutions Eric Hutter 705 SW Wisper Bay Drive, Palm City, FL 34990. 561-762-7560.
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