As a financial columnist at The Washington Post, I often sang the praises of the company's 401(k) savings plan, a benefit many firms offer to their employees. The 401(k) plan, I wrote, is the best way for workers to accumulate a sizable nest egg for retirement.

I also practiced what I preached. During my working years, I invested regularly in The Post's 401(k) plan. My wife, Sara, did the same at her job at General Electric Co. But after we retired, we discovered a troublesome aspect to the 401(k). And it made us wonder whether we put too much money in our 401(k) plans and relied too heavily on them to fund our retirement expenses.

The problem we've encountered is that we must pay a substantial amount of income tax on whatever money we take out of those accounts. Frankly, Sara and I did not anticipate how much of our savings--about a third, I figure--would go to pay federal and state income taxes after we retired.

The reason for the big tax bite is that the money Sara and I put into our 401(k) savings went in before withholding taxes were taken out. In essence, we made a deal with Uncle Sam, who said:

"I will let you put part of your salaries in the 401(k) plan before you pay taxes on that money. You can keep it there and let it grow for many years. But when you retire and begin taking the money out, you'll have to pay the taxes you owe."

It was a good deal, and we do not regret it. But it is very difficult to know--when you are in your thirties or forties--how much money you'll be able to save or how much income you'll be getting when you retire. Thus, it is hard to foresee the impact of taxes on your retirement finances.

There is also a common misconception that your taxes will be lower when you retire because you will be in a lower tax bracket. That may not be the case, especially if you've done a good job of saving and if you receive both a pension and Social Security.

From my experience, I would tell future retirees: When you work out your retirement budget and try to match your expected income with your expected expenses, make sure to include a significant amount of money for paying taxes.

Remember that every dollar that comes out of your tax-deferred accounts is taxed as ordinary income. You have to add those withdrawals to your income from pensions, Social Security and other sources. It can cause your taxable income to rise rapidly, so try not to faint when your tax bill comes due on April 15.

Most of the money we've taken out of our 401(k) savings plans has come out because we had to take it. Uncle Sam has a rule that says when you reach the age of 70 1/2, you have to start taking a portion of your savings out each year using IRS formulas that spread the withdrawals over about 20 years. But taxes also are due on any additional money you take out.

The result is that Sara and I have become increasingly gun-shy about dipping into our savings except when we have to. We sometimes look at the money in our accounts and think it'd be nice to do this or do that, to go here or go there. But then it hits us that for every dollar we withdraw, we have to take out an extra 35 cents or 40 cents to pay the federal and state income taxes due on those withdrawals.

This has made me believe that we may have put too much money into our 401(k) plans and not enough in savings vehicles that had fewer tax consequences. Admittedly, the 401(k) has several benefits that are hard to beat. First, it allows you to save regularly by having your employer deduct a desired amount of money from your salary. Second, many employers match a percentage of your contribution. That gives you "free money," although it may be part of your overall benefits package.

And as I've noted, the money you put into your savings plan is deducted from your gross pay before your withholding taxes are calculated. That lowers your income taxes--and gives you a tax break, at least temporarily.

It also gives you more dollars to invest over the years. Thanks to the magic of compounding, you can wind up with a much larger pool of savings.

It was only after Sara and I retired that we realized that most of our savings were in either 401(k) plans or individual retirement accounts that also were bought with tax-deferred dollars, making us highly vulnerable to taxes.

To avoid getting into this bind, I now think it would a good idea to develop a savings strategy that creates a smaller tax burden when you retire. If I could redo my savings plan under today's circumstances, this is what I would do:

* First, I would regularly put enough money into my 401(k) to receive the full company matching money and get the tax break that goes with it. If my company did not match any of my savings, I would still take part in the 401(k) plan because it is an easy way to save regularly and because it would lower my taxes while I'm working.

* Second, I would put $2,000 a year into a Roth IRA. The beauty of the Roth IRA is that after you reach age 59 1/2--and have owned the Roth IRA for five years--you can take out the full amount without paying any taxes. The Roth IRA was not created until after I retired, but if it had been, I would have funded it each year and used it to create a second pot of money that I could use in retirement without paying taxes.

To be eligible to open a full Roth IRA, you have to have a modified adjusted gross income (AGI) below $95,000 a year if you are single, and below $150,000 for married couples who file jointly.

* Third, if I could save any additional money, I would consider investing it in one of the relatively new "tax-efficient" mutual funds. These funds try to reduce the amount of taxes that shareholders pay each year on fund distributions. Tax-efficient funds seek to achieve this goal by lowering or eliminating both the dividend income and capital gains that they would otherwise pass on to shareholders.

Tax-efficient funds do this in several ways. They reduce the amount of buying and selling in their portfolios to minimize capital gains. They also try to avoid capital gains taxes by offsetting any gains with losses. And, often, they invest in low- or no-dividend stocks that are likely to grow in market value but do not produce income.

Tax-efficient funds are of relatively recent vintage but are widely available--especially from major fund companies. Index funds, which have been around for a long time, are also considered to be tax-efficient because there is relatively little turnover in their portfolios.

Investors often do not realize how much of their gains they can lose to taxes. According to Putnam Investments, a hypothetical $10,000 investment in a growth fund from 1978 to 1998 would have grown to $239,000 before taxes. But the value of the investment after taxes would have been only $166,500--a loss of $72,500.

The taxes for this example were calculated using a 39.6 percent federal rate for dividends and a 20 percent federal rate for capital gains. State taxes were not considered.

Tax-efficient funds are likely to grow in popularity in the coming years. Many baby boomers are accumulating large pools of retirement moneys. As they move into higher tax brackets, they will be looking for ways to invest and reduce their taxes.

The three-step strategy outlined here is likely to be most useful for people who are still many years away from retirement. But what about people who are close to retirement? For them, there are fewer tax-related options.

Let's say you retire this year at age 65 with $100,000 in your 401(k) plan. You will have several ways to handle the money. One, you can take a lump-sum payment, add that money to your current income, and pay a substantial amount of federal and state income taxes. That's probably not the best choice for most retirees.

Two, you can roll the money over into an IRA, where it can be invested and continue to grow tax-deferred until you have to start taking it out. That is what Sara and I did.

Three, you can use a strategy called "10-year forward averaging." It is available to anyone born before 1936--meaning anyone who is now 63 or older. I asked a friend, financial planner Jack May of Lara, Shull & May of Vienna, to explain how this works. Here is his example:

First, divide $100,000 by 10 years, which equals $10,000. Then, using the IRS 10-year averaging rate table, compute the tax on $10,000. It comes to $1,447.10. Multiply that by 10 years and your tax on $100,000 will be $14,471.

That tax, May said, is calculated separately from any other taxes you may owe for the year. It represents a tax on the $100,000 of about 14.5 percent--a good break for anyone in the 28 percent or 31 percent tax bracket or higher.

(It should be noted, however, that the tax bite goes up as the pool of money grows larger. Thus, the tax on $300,000 would go up to 22.1 percent.)

If you used 10-year averaging on your $100,000, you would be left with $85,529 to invest for income or growth, or both.

If the money were invested in an index fund or other tax-efficient fund, May said, the annual taxes would be relatively low. And after the account was open for a year, you could take regular withdrawals and pay taxes on any capital gains at favorable rates. The capital gains rate is 20 percent for those in the 28 percent bracket or higher, 10 percent for those in lower brackets.

Finding ways to lower your taxes in retirement can be a mind-bending task and may require help from an accountant or other financial adviser. But it's well worth the effort for two reasons: You probably worked very hard for many years to save your money. And you're probably going to need it to pay for your retirement expenses for many years to come.

Stan Hinden can be reached at hindens@washpost.com. He will host a live online chat tomorrow at 2 p.m. at www.washingtonpost.com.

Part of the Picture

For many, Social Security benefits are an important part of retirement income. The Social Security Administration is raising the age at which Americans can receive retirement benefits. Here is how the changes will affect recipients:

If you were . . . you will % of benefits But to collect

born in . . . turn 62 in . . . you get if 100% of benefits,

you retire at you need to

62 is: retire when

you turn . . .

1937 and before 1999 and before 80% 65 yrs.

1938 2000 791/6 65 yrs. 2 mo.

1939 2001 781/3 65 yrs. 4 mo.

1940 2002 771/2 65 yrs. 6 mo.

1941 2003 762/3 65 yrs. 8 mo.

1942 2004 755/6 65 yrs. 10 mo.

1943-54 2015-16 75 66 yrs.

1955 2017 741/6 66 yrs. 2 mo.

1956 2018 731/3 66 yrs. 4 mo.

1957 2019 721/2 66 yrs. 6 mo.

1958 2020 712/3 66 yrs. 8 mo.

1959 2021 705/6 66 yrs. 10 mo.

1960 and later 2022 and later 70 67 yrs.

SOURCES: Social Security Administration, Associated Press