Money Talks....
Thank you for joining us on this issue of Money Talks….so we started a little series of “You don’t know what you don’t know”. Part 1 was on Friday about talking about terms for TOD/POD, Beneficiary, POA, Probate, Wills, Trusts, the various types of trust, uses of trusts and benefits of a trust. Today we are going to talk about 401(k), Traditional IRA and Roth IRA.
401(k): is an employer-sponsored retirement savings plan that allows employees to contribute a portion of their wages before taxes are deducted, potentially with employer matching. These contributions grow tax-deferred, and when withdrawn in retirement, they are taxed as ordinary income, unless designated as a Roth 401(k) contributions.
-How it works: Contributions: Employees choose how much of their paycheck they want to contribute to the 401(k), and it’s typically deducted automatically. Investment: The contributed money is invested in a variety of options, such as mutual funds, ETF’s or target date funds, depending on what the plan offers. Employer Matching: Many employers offer to match a portion of the employee’s contributions, effectively providing “free money” for retirement savings. Tax Advantages: Contributions are typically made with pre-tax money, which reduces taxable income in the current year. Earnings with the 401(k) also grow tax-deferred. Retirement: When you retire and withdraw funds, they money is taxed as ordinary income, unless you have a Roth 401(k).
-Types of 401(k)s: Traditional 401(k): Contributions are made with pre-tax money, and withdrawals in retirement are taxed as ordinary income. Roth 401(k): Contributions are made with after tax money, and withdrawals in retirement are tax-free. You could pay taxes on capital gains.
-Why it’s beneficial: Tax Savings: Reduced current taxable income and tax-deferred growth can lead to significant savings over time. Employer Match: Free money from the employer can significantly boost retirement savings. Easy Savings: Automatic paycheck deductions make it easy to save consistently for retirement.
Traditional IRA: is a retirement saving account where contributed can be made with pre-tax money, potentially offering immediate tax deductions. These contributions grow tax-deferred, meaning taxes are only paid on withdraws in retirement. The main benefit is the potential to reduce your current tax bill while saving for the future.
Tax-Deferred Growth: Investment earning inside a Traditional IRA accumulated tax-deferred, meaning you don’t pay taxes on those gains until you withdraw them in retirement. Potential Tax Deductions: Contributions to a Traditional IRA may be tax deductible, depending on your income level and whether you’re covered by a workplace retirement plan. No Income Limits: Anyone with earned income can contribute to a Traditional IRA, regardless of their income levels.
Required Minimum Distributions (RMD): You are required to start taking withdrawals from your Traditional IRA at age 73 and these withdrawals are taxable.
Early Withdrawal Penalties: Withdrawals before age 59 1/2 are generally subject to a 10% early withdrawal penalty, in addition to taxes. Contribution Limits: There are annual limits set by the IRS, which may vary based on age and whether you’re over 50.
Investment Options: You can invest in a variety of assets within a Traditional IRA. Such as: stocks, bonds, mutual funds, ETS or annuities.
IRA Timebomb: the potential for a significant tax burden when withdrawing funds from a Traditional IRA during retirement. This can happen because these accounts grow tax deferred and when the money is withdrawn, its taxed as ordinary income. The “timebomb” is that large accumulated accounts could push retirees into higher tax brackets, especially when combined with other income sources like Social Security.
That’s it for today. Next time we will pick up with Roth IRAs.
Until next time,
Diane