One of the best ways to get the most for your investment dollar is to make use of tax advantaged accounts. While you might have to pay taxes on your money before you contribute to some of these accounts, the money grows tax-free, so the earnings don’t end up being taxed.
Whether you get a tax deduction for your contribution, or whether you just receive the benefit of tax-free earnings and interest, a tax benefit can be one way to boost your real returns over time. Here are 5 tax-advantaged accounts to consider:
If you have an employer, you can use a 401(k) to set aside money each year. The amount you can contribute is tied to inflation. For 2013, you can contribute up to $17,500, with the ability to contribute an extra $5,500 “catch up” for those who are 50 and older. Your income doesn’t matter; you can contribute no matter how much you make, even to a Roth account. With at Traditional 401(k), you get a tax deduction now for your contribution, and pay taxes later. With the Roth version, you don’t get a deduction now, but your money grows tax-free. If you don’t have an employer, but are self-employed, you might be able to open a solo 401(k).
2. Individual Retirement Account (IRA)
This is another type of retirement account. Anyone who has earned income can open an IRA and contribute to it. It’s also possible to open a spousal IRA and contribute to a plan on behalf of your non-working spouse. Like the 401(k), you can get a tax deduction for a Traditional contribution, or have your money grow tax-free after a contribution to a Roth account. The amount you can contribute to an IRA is smaller, at $5,500, with a catch up of $1,000. Realize, though, that there is an income limit if you want to contribute to a Roth IRA.
3. 529 Plan
If you want to help your child get a good start on paying for his or her education, you can invest in a 529 plan. Many plans offer you a state tax deduction (there is no federal benefit for contributions) if you are a resident and contribute to the state plan. Even though you might not get a tax deduction, the money grows tax-free, as long as the beneficiary withdraws the money for use with qualified education expenses at an institution of higher learning. Contributions each year cannot exceed what it reasonably costs to provide college education expenses.
4. Coverdell Education Savings Account (ESA)
This is another type of education savings plan that you can use for someone’s educational benefit. Right now, the contribution limit is $2,000 a year. The contribution isn’t tax-deductible, but the money grows tax-free, as long as earnings are used for qualified education expenses. Another bonus of the ESA is that right now the money can also be used at private primary and secondary institutions, in addition to colleges and universities. You do have to meet income requirements to contribute.
5. Health Savings Account (HSA)
If you want a tax deduction and tax-free earnings, the HSA might be for you. You have to use a high deductible health care plan if you want a HSA. You receive a tax deduction for your contribution, and, as long as you use the money for qualified health care costs, you don’t have to pay taxes when you withdraw. A HSA can double as an IRA when you reach age 59 1/2, but you have to pay taxes on withdrawals that aren’t for health care expenses.