MoneyRates Monthly Resolution #4: Max Out Your Tax-Advantaged Retirement Accounts
April 01, 2010
Has tax season got you down? That's a familiar condition in April. If you suffer from tax anxiety, you might try to make things better next year by maximizing your tax-advantaged savings options.
In fact, if you're following the MoneyRates.com monthly resolution plan to get your savings rate into shape, you'll be meeting your April goal by increasing your tax-advantaged retirement savings.
What Are Tax-Advantaged Retirement Accounts?
Tax-advantaged savings plans allow you to save money for retirement in accounts that defer or reduce your taxes. Common types for retirement include 401(k) plans (or their counterparts, which are 403(b) plans offered by nonprofit employers and 457 plans offered by government employers), traditional IRAs, and Roth IRAs. All can be useful savings tools; any one of these accounts can serve as the centerpiece of your retirement savings.
According to Choose to Save, a campaign launched as a partnership with the Employee Benefit Research Institute and the American Savings Education Council, you can direct up to $16,500 into a 401(k) plan in 2010. Besides giving you the opportunity to set aside that large amount of money pre-tax, your 401(k) plan may also offer the advantage of an employer match.
Moreover, for some of these tax-advantaged accounts, you can make a deposit towards the previous tax year's contribution limit, even after December 31.
The only downside to tax-advantaged savings is that they can lock up your money for years, with penalties or restrictions on early withdrawals in many cases. So you need to have a clear picture of when to use these tax-deferred savings options and when to use after-tax savings options.
When Tax-Deferred Savings Make Sense
Tax-deferred savings vehicles make the most sense when:
- You are saving money for retirement.
- You don't plan to retire before age 59.
- You have an emergency fund set aside.
- You have a steady job.
Under these circumstances, you probably have more to gain than to lose by locking your money up for the long haul and deferring taxes in the meantime.
When to Favor After-Tax Savings
Despite the positives of tax-deferred savings, there is generally a penalty for early withdrawals. Therefore, after-tax savings may be more appropriate if:
- You are just starting out and have no emergency savings.
- Your job status is shaky.
- You are saving for shorter-term goals than retirement.
- You've just taken on a major new purchase, such as a home, that may make your budget a little uncertain this year.
Whichever account type you choose for your savings, the important thing is to begin or increase regular contributions toward your retirement.
