Nov 30, 2021

Make the Most of Your Unused PTO in Retirement

Americans have a unique relationship with work.  Our jobs provide us with more than just food on the table; they offers a sense of responsibility and satisfaction in solving tough intellectual challenges with colleagues that can be incredibly fulfilling.

Americans love their jobs so much that from 1981 to 2016, the average amount of vacation days taken by Americans per year actually decreased from 21 to 16.  In 2015 and 2016, more than half of U.S. employees ended the year with unused time off.

Even taking the difficult employment numbers throughout the pandemic into consideration, Americans still have worked more than comparable nations in recent years.  At the beginning of the pandemic in March of 2020, Business Insider conducted a study to determine the effect that a full economic shutdown would have on the average annual hours Americans would work, compared to the next 10 richest countries as determined by 2019 GDP.  The study found that a complete U.S. economic shutdown of a month would lead to Americans still working about as many hours as employees in France or the U.K. do in a typical pre-pandemic year.  In sum, Americans typically show up at the office and rarely use the PTO days afforded them no matter the circumstances.

After nearly two years of a pandemic causing many Americans to cancel vacation plans, you may be wondering what to do with all those leftover PTO days, especially if you are considering retirement.  Here are a few things to consider:

1 – Taking your PTO as a lump sum payment can push you into a higher marginal tax bracket

Receiving the value of your unused vacation time as a lump sum payment on or around your retirement date may provide flexibility at the beginning of your retirement.  The money could be used to pay down debt, invest, make a large purchase, or to take an ambitious vacation before you begin to suffer any decline in health or mobility.  But before taking your PTO as a lump sum, work with your financial advisor and accountant to make sure the one-time payment doesn’t cost you more in taxes.  If you use some of your PTO days before officially retiring in order to reduce the lump sum payment, you may avoid a higher tax bill at the end of the year.

2 – Lump sum payments are considered supplemental wages by the IRS

Supplemental wages are all wages paid by an employer that are not paid at a regular hourly, daily, or similar periodic rate for the current payroll period. These might include cash bonuses, income from a nonqualified stock option exercise, or a lump sum PTO payout, all of which would be subject to Social Security and Medicare taxes.  Any federal income will be withheld at 22%, the IRS supplemental wage tax rate in 2021.

3 – Using your PTO can help you maintain your employer-based health insurance

If you have employer-based health insurance, your premiums will dramatically increase if you retire before you become eligible for Medicare at age 65.  By strategically planning out the use of your PTO, you can extend your health insurance coverage and perhaps avoid COBRA payments if you are close to turning 65.  This can also be beneficial if your spouse is already retired and covered under your health insurance plan.

Moreover, if your employer offers a high deductible plan, you can prolong your eligibility for contributions to your HSA into a new year.  You also may want to discuss with HR the possibility of your unused PTO value being converted to HSA contributions, if their value does not exceed the maximum HSA contribution limit.

4 – Using your PTO can extend your retirement date and increase your income in retirement

By using your PTO to extend your retirement date, you can increase your Social Security retirement benefits.  Your Social Security retirement benefits are increased by a certain percentage for each month you delay starting them beyond your full retirement age.  If you are close to your full retirement age of 70 (when Social Security benefits stop increasing), working with your employer to use PTO to reach that age can increase your income in retirement.


5 – Depending on your employer, you may be able to convert unused PTO to a retirement plan contribution

If your employer’s 401(k) and PTO governing plans contain provisions regarding conversions and contributions, you may be able to convert unused vacation hours into a 401(k) contribution that will be treated as a pretax benefit.  Just make sure the value of your unused PTO value does not exceed your contribution limit.  Your employer can help you determine whether the requirements have been met to allow for you to contribute the unused PTO to your 401(k).

Making the best of your unused PTO can be a tricky situation. If you’re confused about any of these rules, feel free to give us a call at the Nicholson Metz Davis Group at (713) 973-3800.

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