Posted on Wednesday 27 April 2011
When planning for retirement, some people opt for betting on a big one-time score, like hitting the lottery. Intelligent people know they stand a much better chance of arriving at retirement age with a healthy nest egg if they take a slower, more calculated approach to saving. That means being cautious and allowing your money to work for you. It also means starting early and taking advantage of any tax breaks you’re entitled to. Following are some tips on how to invest in tax friendly retirement accounts.
Define Your Goals
The first step in planning for your retirement is to define your goals. Before investing your money, know where you want to end up. Decide how much money you envision needing to make your retirement years comfortable. That will give you a good idea of how much you’ll need to be putting away each week. Take note of the amounts of money you’re allowed to place into a tax advantaged retirement account without going over the limit. Diversify your income.
Prior to investing in a retirement plan it’s important to study all the different forms a plan can have. The choices are many and varied, with a tremendous assortment of tax advantages. Tax friendly plans do exist, and knowing your options before actually risking any of your money is recommended. Don’t jump into a plan without learning about the long-term ramifications.
Any smart investor will realize their limitations. Professional help is available for those who aren’t sure what type of plan will suit their needs. An accountant or tax attorney works with these plans on a daily basis, and their input could make the difference between you ending up with a suitable retirement income or living a less comfortable retirement than you envision. Familiarize yourself with the basic advantages of the available retirement plans so you can fully understand the recommendations of your chosen financial advisor.
Tax Advantaged Savings Plans
Sticking with tax sheltered investment plans will help you attain your goals quicker, and with the added relief of not having to worry about taxes eating up your retirement money. Over a long period of time investing in a tax friendly retirement account can build up a great deal of return on your investment, so starting as early as you possibly can is recommended. Tax free investments help your retirement account grow slowly, but steadily – providing you don’t dip into it.
Types of Plans
Although there are a great many tax friendly retirement plans there are two types that are most common. Either of these basic forms should serve you well, and build a tidy sum for your golden years – providing you understand them.
The most familiar type of tax friendly retirement plan is a 401k. A 401k savings plan is named after subsection 401k of the Internal Revenue Code. The plan has proven to be a viable way to set aside money for retirement since its inception in the 1980s, at least in the eyes of some people. Others feel it doesn’t work the way it was intended. You will have to study the plan to see if it will fit your needs. It is a long-term growth plan, meaning you have to leave the money in place in order for it to accumulate. A 401k plan works through an employer. You have a certain amount of your income withheld that goes directly into a savings account. That money is tax deferred. You don’t pay taxes on it until it is withdrawn. It is also usually matched by your employer, so for every dollar you put into a 401k, your employer puts in a dollar. It is generally regarded as a relatively safe and secure means of saving money. However, your investments are not guaranteed. You could lose money.
Individual Retirement Account
The other well known type of tax friendly retirement account is called an individual retirement account, better known as an IRA. There are many types of IRAs, and wading through them can be complicated. A detailed study of IRAs is recommended before sticking your money into either a traditional IRA, which only has tax advantages in the year the money is actually saved, or a Roth IRA, where your funds go into an account using money that has been taxed. With a Roth IRA, your withdrawals are usually tax free. There are tax advantages with all types of IRAs, but it’s a good idea to become familiar with any tax consequences before investing in them.
Guest post from Bailey Harris.