When it comes to managing personal finances, it can be tricky to know how to proceed. While many people start focusing all of their energy on taking care of the things they need at the moment, the truth of the matter is that there are a lot of things you can do to disrupt your finances that may be easy to ignore at first. For starters, it is crucial to move forward and identify tax issues, even if you haven't focused on them quite yet. Check out these short posts to learn more about how you could be faced with tax problems, and how to resolve the situation for the long run.
For most Americans saving for retirement, the idea of getting a tax benefit in reward for putting your hard-earned money away is an important motivation. But not all retirement accounts reduce your income taxes when you make those contributions. Does this mean they aren't tax-advantaged? Should you participate in accounts that delay the tax advantage from now until many years in the future? The answer may be yes, and here are four reasons why.
1. Lower Taxes in Retirement. As a general rule, income is only taxed once for income tax purposes. This means you either pay that tax now on the money you earn or you pay the tax when you withdraw it during retirement. If you opt to bite the bullet, as it were, now, you won't have to factor in the effects of taxation reducing your money in retirement. This makes budgeting easier and more stable.
2. Tax-Free Growth. Tax-advantaged accounts which let you pay taxes on contributions now, such as Roth IRAs and Roth 401(k)s, make a big difference in how much of your account is subject to being taxed. With traditional retirement accounts, you pay income taxes on all withdrawals—both contributions and growth, or earnings. However, if you pay the taxes up-front, that money grows tax-free. You won't pay any income tax on anything earned over the years.
3. Greater Diversity. Diversification is an important investment too, especially for those planning retirement. How your savings are taxed is part of this. If you balance the tax advantage of tax-free future growth with reduced taxes during your income-earning years, you never put everything at risk with just one strategy. If your taxes are lower now, you pay some of your tax obligations at a lower rate. If it's lower later, you can still take advantage of this with traditional accounts.
4. Different Rules for Accounts. Poring over the detailed IRS rules of each account may not be much fun, but it helps you maximize the strengths and minimize the weaknesses of each type. For instance, Roth IRAs, which provide tax-free withdrawals, may be easier to withdraw from in an emergency. However, you may find early retirement easier with a traditional 401(k). More options in your portfolio mean more choices.
Where to Learn More
Would you like to learn more about how to compare the different tax advantages of different retirement accounts? Start by meeting with a retirement planning service in your state today. No matter what tax and financial strategy you develop, the result will be a healthier and happier retirement.
Share2 May 2022
