[ad_1]
IRAs and Roth IRAs are popular tax-deductible savings accounts, with contributions tax-deductible in the former and withdrawals in the latter. A 529 plan offers tax benefits for higher education expenses.
The most popular forms of tax-deductible savings accounts are the IRA and the Roth IRA. These work in different ways, with the tax deduction applicable to contributions in the former case and withdrawals in the latter case. There is also a special savings plan for higher education expenses that offers a variety of tax benefits.
A popular form of tax-deductible savings account is the IRA, or individual retirement account. In the original form, known as a traditional IRA, contributions are tax deductible. This means that a person making $40,000 United States Dollars (USD) who pays $2,000 into an IRA will pay income tax for the year as if they earned $38,000. The person does not pay taxes on the fund until she retires and begins making withdrawals. This money is classified as part of her income for that year and is subject to income tax.
The contrasting type of tax-deductible savings is known as a Roth IRA, named for the politician who sponsored the legislation that established it. Reverses the tax process, which means that contributions to the fund are not tax deductible, but withdrawals at retirement are. This would normally be an advantage for someone who is in a higher tax bracket making withdrawals and later making contributions.
Another important difference between the two types of IRAs is the age restrictions. With a traditional IRA, there is a 10% penalty for withdrawing any money from the fund before age 59½, with a few exceptions related to education, health, or home purchase expenses. A Traditional IRA owner must also begin withdrawing some money from the fund upon reaching age 70½, and must make a minimum withdrawal from the fund each year after that, based on a sliding scale formula. While there are still withdrawal restrictions on a Roth IRA in certain situations, they are less stringent than those associated with a traditional IRA. This can be a benefit if, for example, the person does not need the income at age 70½, and prefers the money to have a better opportunity to grow, tax-free.
Parents who want to save money to help finance their children’s college education can use a tax-deductible savings account known as a 529 plan, named after the appropriate section of United States tax law. Such plans have significant tax advantages. The person paying into the plan can deduct the payments from their taxable income for the year. The growth of money in the investment plan is not taxable. And the student generally doesn’t pay taxes when they receive the money, as long as it’s spent on approved college-related costs, such as tuition, housing, or equipment.
Smart Asset.
[ad_2]