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Taxes and Your Retirement Plan

» Introduction
Great tips on tax-deferred and tax-free investments for your retirement planning.
» Step 1
Retirement sounds great, right? It is – but you may not enjoy your golden years as much if you don’t take advantage of tax-free and tax-deferred investments.

The beauty of these investment vehicles is that you don't have to pay taxes right away on such as individual retirement accounts and 401(k) plans. Instead, your money appreciates over time tax-free. You pay taxes on it when you take it out.

Then there are tax-free investments like the Roth IRA, where withdrawals are completely tax-free as long as you turn 59 1/2 years old.

With the landscape rich with such investment vehicles, let’s take a look at what they are and how they work.
» Step 2
Individual Retirement Accounts (IRAs)

Contributing to any kind of IRA is a good idea, even if you can't deduct your contributions. That's because the earnings in the account grow tax-free until you withdraw them. With a traditional IRA, you may be able to deduct your contributions, too, depending on whether you are single and have an employer-maintained retirement plan, or if you are married and filing a joint return.

A caveat. Cash taken out of a traditional IRA is, by and large, taxable. Smart move? Wait until year-end to take a withdrawal from your IRA. By waiting until after January 1, you can make Uncle Sam wait an extra year before he gets his share.

When you hit age 70 1/2, the IRS insists that you begin withdrawals from your traditional IRA. But the first mandatory distribution—the one for the year you turn 70 1/2—can be put off until as late as the following April 1.
» Step 3
Roth IRAs

Another nice option is the Roth IRA. Contributions to an IRA aren’t deductible, but qualified withdrawals from a Roth IRA are nontaxable.

With Roth IRA’s, earnings are non-taxable when withdrawn, provided you meet the holding requirements. Another advantage is, unlike traditional IRAs, the IRS does not require you to take a distribution from a Roth IRA when you reach age 70 1/2. Roth IRAs are not without some restrictions, however. As with traditional IRAs, distributions of earnings are taxable and subject to a 10-percent penalty if taken out prematurely. With a Roth, you must leave your money in for five years. If you’re eligible for both a deductible traditional IRA and a Roth IRA, your choice can be a difficult one. You’ll need to balance your need for current deductions with your desire for tax-free retirement income.
» Step 4
401(k) Plans

Like most investments, the more you know about 401(k)’s the better your retirement will be. For example, there is a limit on how much you can sock away in a 401(k) each year, but the limit is far above the IRA cap. For 2007 the cap is at $15,000. Also, workers age 50 and older by the end of the year will be allowed to make "catch up" contributions above and beyond the set dollar limitations. For 2007, the new limit is $20,000. Your personal limit depends on your salary and what percentage the company permits you to put into the retirement plan
» Step 5
403(b) Plans

The Internal Revenue Code defines a 403(b) plan as a defined-contribution retirement plan available only to employees of private organizations that are tax-exempt under IRC 501(c)(3) and to educational organizations of a state, political subdivision of a state, or an agency or instrumentality of a state.

The big tax advantage of 403(b) plans is the same benefit you garner from 401(k) plans: Amounts contributed (other than employee after-tax contributions) and the "inside" (pre-retirement) buildup of earnings aren't subject to federal income taxes until withdrawn.


The more you know about taxes and retirement, the more money you’ll have to keep for yourself in retirement.

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