When it comes to your finances, there are many essential terms you need to know. One of those terms is tax-deferred. What does that mean? In essence, it means that you are delaying the payment of taxes on investment or income until a later date. This can be a great way to reduce your overall tax burden, but it’s essential to understand the implications before making any decisions. This guide will discuss the benefits and drawbacks of tax-deferred investments and help you decide if they are right for you!
What Is Tax Deferral?
Tax deferral means not paying federal income tax now but in the future when you take withdrawals from your retirement savings account like a 401k, IRA, or annuity. Delaying taxes also means earning interest on the money you would otherwise pay taxes on. Retirement savings grow faster than gains that are taxed each year. The longer the taxes are deferred, the better, especially during retirement, especially if in a lower tax bracket.
The Benefits of Tax Deferral
The most apparent benefit of tax-deferred investments is that you can potentially save a lot of money on taxes. If you are in a high tax bracket, deferring taxes can help you keep more of your hard-earned money. In addition, deferring taxes can also help you save money in the long run if you expect to be in a lower tax bracket in retirement.
Of course, there are also some drawbacks to consider. One of the biggest is that you may pay more taxes overall if tax rates go up. Additionally, you may be subject to penalties and fees if you need to access your money before retirement. Therefore, as with any financial decision, it’s essential to understand the implications before making a decision.
The Advantages Of Tax-Deferred Annuities
Purchasing an annuity with after-tax dollars, only the annuity interest is subject to ordinary income taxes on your earnings when you begin withdrawing money (not on your premium payments).
Unlike your 401k or IRA, annuities don’t have government-imposed contribution limits.
Because of that, they can often be a good choice if you want to save more than IRAs and 401(k)s allow and still enjoy tax-deferred growth potential.
Buying an annuity within a retirement plan that already provides tax deferral results in no additional tax benefit.
Use an annuity to fund a qualified retirement plan based upon features other than tax deferrals, such as lifetime income options or the guaranteed death benefit.
Tax deferral is a powerful way to grow your retirement savings. You don’t have to pay federal income tax on the money you save now, and it will grow faster than if it were taxed each year. Contact us today to learn more about how you can take advantage of this critical benefit and watch your retirement savings grow.
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Frequently Asked Questions
Do annuities grow?
There are three types of annuities: fixed, indexed, and variable. Fixed annuities grow at a set rate, similar to a Certificate of Deposit. Indexed annuities grow based on the movement of a stock market index without any risk to your original investment. Variable annuities grow based on the success of one or more subaccounts, which can carry a risk if the account does not do well. Immediate annuities do not grow in value over time.
What does tax-deferred mean?
Tax-deferred means that you can postpone paying taxes on the investment until you withdraw the money.