Retirement income is not passive income for tax purposes. The IRS defines passive income narrowly under Section 469 of the Internal Revenue Code, and Social Security benefits, pensions, and withdrawals from 401(k)s, 403(b)s, and traditional IRAs all sit outside that definition. They are taxed as ordinary income at your regular federal bracket, which runs from 10 to 37 percent in 2026. Qualified Roth distributions are the one common exception: they aren’t ordinary income, aren’t passive income, and aren’t taxed at all.
What Passive Income Actually Means to the IRS
The tax code sorts income into three buckets: earned income (wages and self-employment), portfolio income (interest, dividends, and capital gains), and passive activity income. “Passive” has a precise statutory meaning. Under Section 469, income is passive only if it comes from a trade or business in which you don’t materially participate, or from a rental activity.1Office of the Law Revision Counsel. 26 USC 469 – Passive Activity Losses and Credits Limited
The rule exists to stop taxpayers from using paper losses from businesses they aren’t involved in to shelter wages or investment gains. Passive losses can only offset passive income. That framework has nothing to do with retirement money, which comes from a statutory benefit (Social Security), from deferred compensation earned through prior employment (a pension), or from an account you funded yourself (an IRA or 401(k)). None of those sources is a business you’re a silent partner in, and none is a rental. So the passive category simply doesn’t reach them.
Why the distinction matters: if you assume your IRA withdrawals are passive, you might also assume a passive loss from a limited partnership can offset them. It can’t. The categories don’t mix.
How Social Security Is Taxed
Social Security is a federal benefit, not income from a business or rental, so passive rules don’t apply. Whether any of your benefit is taxable at all depends on “combined income,” meaning your adjusted gross income plus nontaxable interest plus half your Social Security benefits.2Internal Revenue Service. Publication 915 (2025), Social Security and Equivalent Railroad Retirement Benefits
- Combined income between $25,000 and $34,000 (single) or $32,000 and $44,000 (joint): up to 50 percent of benefits are taxable.
- Combined income above $34,000 (single) or $44,000 (joint): up to 85 percent of benefits are taxable.3Internal Revenue Service. IRS Reminds Taxpayers Their Social Security Benefits May Be Taxable
Those thresholds haven’t been adjusted since 1993, so more retirees cross them each year as cost-of-living increases push benefits up.4Social Security Administration. Taxation of Social Security Benefits The taxable portion folds into your ordinary income and is taxed at your bracket rate. Eight states still tax Social Security to some degree as of 2026; most exempt it.
How Pensions Are Taxed
A pension is deferred compensation you earned during your working years. The payer reports it on Form 1099-R, and it’s taxed as ordinary income in most cases.5Internal Revenue Service. Instructions for Forms 1099-R and 5498 It is not passive income and not investment income. If you contributed after-tax dollars to the plan, a portion of each payment may be a tax-free return of basis, but the rest lands in your ordinary-income column.
How 401(k), 403(b), and Traditional IRA Withdrawals Are Taxed
Distributions from traditional 401(k)s, 403(b)s, and traditional IRAs are ordinary income.6Internal Revenue Service. Retirement Topics – Tax on Normal Distributions The contributions went in pre-tax, so every dollar coming out gets taxed at your regular rate.
This produces a result many retirees don’t expect. In a taxable brokerage account, long-term capital gains and qualified dividends get preferential rates of 0, 15, or 20 percent. Inside a retirement plan, those same gains lose their character. A dividend that would have been taxed at 15 percent in a brokerage account is taxed at your full ordinary rate when it exits a 401(k) or IRA. Nothing about the underlying investments makes the withdrawal passive; the wrapper controls the tax treatment.
Pull the money before age 59½ and you generally add a 10 percent early distribution tax on top of the ordinary income tax, with exceptions for disability, death, certain medical expenses, substantially equal periodic payments, separation from service in or after the year you turn 55 (50 for certain public safety employees), first-time home purchase (up to $10,000 from an IRA), and domestic abuse victims (up to $10,000 or 50 percent of the balance, for distributions after December 31, 2023).7Internal Revenue Service. Retirement Topics – Exceptions to Tax on Early Distributions
Roth Accounts Are the Real Exception
Roth IRAs and Roth 401(k)s flip the treatment. You contribute after-tax dollars, and qualified distributions come out entirely tax-free, growth included. A qualified distribution requires two things: you’re at least 59½ (or disabled, or the distribution follows death), and the account has been open at least five tax years.8Internal Revenue Service. Retirement Topics – Designated Roth Account
A qualified Roth withdrawal isn’t ordinary income, isn’t passive income, and isn’t taxed at all. It also doesn’t count toward the income measures that drive Social Security taxation, the net investment income tax, or Medicare premium surcharges. Take a Roth distribution before meeting the age and five-year rules and the earnings portion may be taxable and hit with the 10 percent early distribution tax; your original contributions always come out tax-free and penalty-free because you already paid tax on them.
Why the Classification Matters
Passive Losses Can’t Offset Retirement Income
Because retirement distributions aren’t passive activity income, a passive loss (from a limited partnership interest, for example) cannot offset them. Passive losses only offset passive income. That’s the whole reason Congress drew the line in Section 469.
The Net Investment Income Tax Skips Retirement Distributions
The 3.8 percent net investment income tax (NIIT) hits interest, dividends, rental income, capital gains, and similar investment income when modified adjusted gross income exceeds $200,000 (single) or $250,000 (joint). Section 1411(c)(5) explicitly excludes distributions from qualified retirement plans (401(k), 403(b), traditional IRA, Roth IRA) from net investment income, and Social Security benefits are also excluded.9Office of the Law Revision Counsel. 26 USC 1411 – Imposition of Tax
A retiree drawing $150,000 from a 401(k) alongside $60,000 of rental income owes NIIT only on the rental piece, not the retirement piece. There’s a wrinkle worth knowing: retirement distributions still count toward MAGI. A large withdrawal can push MAGI over the threshold and expose your other investment income to the 3.8 percent surtax, even though the withdrawal itself stays exempt.
Medicare Premiums Are Driven by Total Income, Not Category
Medicare Part B and Part D premiums are income-tested through IRMAA (Income-Related Monthly Adjustment Amount). If your MAGI from two years earlier exceeds set thresholds, you pay more each month. The 2026 standard Part B premium is $202.90, with surcharges for individual filers stacked as follows:
- MAGI up to $109,000: no surcharge ($202.90 total).
- $109,001 to $137,000: $81.20 surcharge ($284.10 total).
- $137,001 to $171,000: $202.90 surcharge ($405.80 total).
- $171,001 to $205,000: $324.60 surcharge ($527.50 total).
- $205,001 to $499,999: $446.30 surcharge ($649.20 total).
- $500,000 or more: $487.00 surcharge ($689.90 total).10Centers for Medicare & Medicaid Services. 2026 Medicare Parts A and B Premiums and Deductibles
Joint filers face the same surcharge amounts at double the income thresholds (the first bracket begins at $218,000). Part D adds its own surcharges of $14.50 to $91.00 per month at the same tiers.
Every category of retirement income counts toward the MAGI used for IRMAA: 401(k) and IRA withdrawals, pension payments, taxable Social Security, even tax-exempt interest. A one-time $50,000 IRA withdrawal to cover a home repair can generate not only ordinary income tax now but twelve months of higher Medicare premiums two years down the road. Qualified Roth distributions are one of the few sources that don’t feed the MAGI calculation.
What About Rental Income in Retirement?
If you own rental property, that income is a separate story and is passive by default. Section 469(c)(2) treats rental activities as passive even when you handle every tenant call yourself. A narrow exception exists for real estate professionals who meet strict hour-based tests, but for most retiree-landlords the rent stays passive.1Office of the Law Revision Counsel. 26 USC 469 – Passive Activity Losses and Credits Limited That classification lets you offset rental profits with passive losses from other rental or non-material-participation activities. What it doesn’t do is turn your Social Security check or your IRA withdrawal into something a rental loss can absorb.
The bottom line for a mixed portfolio: sort each income stream on its own. Rents are passive. Pensions, Social Security, and traditional retirement account withdrawals are ordinary income. Qualified Roth withdrawals are tax-free. The buckets don’t spill into each other.