About a decade ago, my career transitioned from being a concert promoter to a personal finance journalist. Initially, my thoughts on taxes were minimal, only considering them once a year during tax season. However, my job at CNBC has led me to delve into tax strategy year-round, especially regarding how retirement contributions impact long-term financial plans. Holding the certified financial planner designation has provided me with a unique perspective on the intricacies of tax planning and the ripple effects of current decisions on future outcomes.
One of the primary dilemmas that investors face is whether to save into a pretax or after-tax Roth account. While pretax contributions can lower adjusted gross income, withdrawals during retirement are subject to regular taxes. On the other hand, Roth contributions do not offer an upfront tax benefit, but the funds grow tax-free. Experts suggest that pretax contributions are advantageous for high earners, while after-tax savings are more suitable for individuals in lower tax brackets. It is important to weigh factors like employer matching contributions, investment choices, fees, and long-term legacy goals when making this decision.
Initially, my focus was on Roth savings, considering my lower income and ample time until retirement. However, predicting future tax brackets is challenging, prompting me to diversify tax implications across various investment accounts over time. Prioritizing employer match contributions with both pretax and Roth 401(k) deferrals, along with Roth IRA contributions, has become a part of my updated tax planning strategy. Additionally, allocating extra funds to a taxable brokerage account, despite incurring annual capital gains taxes, allows for access to funds before retirement. Moreover, maintaining a health savings account nest egg from my self-employment years, invested for potential tax-free medical expense withdrawals in retirement, adds a level of flexibility to my financial planning.
JoAnn May, a certified financial planner and certified public accountant, emphasizes the significance of having a variety of investment accounts to cater to different types of assets. Striking a balance between tax-deferred, tax-free, and taxable savings enables flexibility in managing yearly tax obligations. Allocating income-producing investments, like bonds or real estate investment trusts, to tax-deferred or tax-free accounts can help minimize tax liabilities. However, it is essential to remember that investment decisions should not be solely based on tax considerations but should align with individual goals, risk tolerance, and investment timeline.
As I have learned from experience, the location of assets within your investment portfolio can have implications on tax liabilities. Early encounters with unexpected capital gains taxes on a brokerage account underscored the importance of strategic asset placement. While tax efficiency is crucial, it should not overshadow the overall investment strategy. Maintaining a well-rounded investment mix based on personal financial objectives and risk appetite is key to long-term financial success.
Effective tax planning is a critical aspect of building a diverse and resilient investment portfolio. By proactively considering tax implications across various accounts and investment vehicles, investors can optimize their financial outcomes while maintaining flexibility for changing tax landscapes. A comprehensive approach to tax planning, in conjunction with sound investment principles, can set individuals on a path towards financial security and success in the years to come.
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