There are only two more weeks before the April 15 federal income tax filing deadline. Unlike that forgiving professor who accepted your mid-term paper three weeks after spring break, the IRS is no joke. They like deadlines. Even their name strikes fear in the hearts of people.
While many of us dread tax time, I would look at it as an opportunity (I’m a glass half full type of guy, if you can’t already tell) to revisit your retirement savings plan.
Why tax time? A few reasons: First, it’s probably one of the few times of the year when all your income information is right in front of you. Second, if you didn’t maximize your retirement contributions throughout the year (or you didn’t save at all), you can still make it happen before filing your taxes. And third, saving for retirement is a good thing. If you want to retire someday (and who doesn’t?) proper preparation and planning will help get you there.
Here are some things to consider:
Employer Sponsored Plans
Many employees offer some type of sponsored retirement plan. Two of the most common types are defined benefit plans and defined contribution plans. Of these two, your employer is most likely to offer a defined contribution plan (such as employee matching on a 401(k) plan). Each plan has its own rules (in terms of annual contributions, vesting options, and matching opportunities), but almost all plans contribute monies on a tax-deferred basis, which means you don’t pay taxes until you withdraw the funds.
When filing your taxes, take some time to review your companies’ policy, your own contributions (which you should try to make on a regular basis), and any opportunities to maximize savings.
Traditional Individual Retirement Accounts (IRA)
Traditional IRAs are tax-deferred accounts, which offer immediate tax savings. As an individual tax filer, you can contribute up to $5,500 for the 2013 tax year. As long as you make a contribution before the tax filing deadline, your taxable income will be reduced by whatever amount you contribute. For example: If you have a taxable income of $50,000 and put $4,500 into a traditional IRA, your taxable income will be reduced to $45,500).
The advantage is two-fold: You get a lower taxable income for the current year and savings for your retirement. Win-win.
Roth Individual Retirement Accounts (Roth IRA)
Unlike traditional IRAs, contributions to Roth IRAs are done on a post-tax basis, so they do not offer any immediate tax benefit. However, when you do retire, the money you deduct from your Roth IRA will be tax-free. Let’s say you save $200,000 in your Roth IRA. Once you start withdrawing (assuming you do not withdraw funds early) the entire $200,000 is yours. Seriously. No taxes! It’s written down somewhere, I promise. So, while it might not be a “win” now, it’s certainly a win later.
Of the two IRAs, I have chosen to invest in a Roth IRA, and when I filed my taxes, I was able to contribute a little more for the 2013 year. For the 2014 year, my plan is to start much earlier (like today) with regular contributions.
Do you contribute to your retirement regularly? Tell us why or why not in the comments! In the meantime, you can read more about traditional and Roth IRA’s here.
This document was prepared for informational purposes only and is not meant to be tax or legal advice. Please see your tax professional for additional guidance.