There are different legal ways to save your hard money instead of paying them all to your taxes. Some of the most famous strategies are through opening Individual Retirement Accounts (IRA), 401 (k) Plans, and Health Savings Accounts (HSA). These are contributions that are known as tax-advantaged accounts because they will help substantially cut your taxes. They are an effective means of saving for your future as well as reduce your tax burden.
It is, however, important to mention that these specials accounts are under the IRS’s strict rules and regulations. They can be quite confusing especially if you’ve never encountered them before. There are advantages and risks that need to be considered in having them. Although we strongly advised that you have them discussed with a tax professional, we still would like to help you out by giving you a simple break down on how these accounts work.
What is an Individual Retirement Account (IRA)?
An IRA is a type of account that you open using your own money in your bank account. It offers both tax benefits and retirement savings. It has two main types, the Traditional IRA and Roth IRA. The difference between them is that the Traditional IRA allows you to deduct your contributions provided you’re not over the IRS income limit, while the Roth IRA will not allow you to deduct your contributions because it’s an after-tax account. Your money, when contributed to Roth IRA, grows tax-free which is great. You can contribute up to $5, 500 per year to an IRA. Opening it isn’t that difficult as well.
What is a 401 (k)?
A 401 (k) a retirement plan on the other hand is offered by employers to their employees through a financial service company. The maximum amount contributed to this plan by you and your employer is $53, 000 per year. Contributing to a 401 (k) is done through signing up to your HR department or if self-employed, can be opened through any financial services company. You will decide how much to contribute per paycheck which is usually done online. One great thing about this retirement plan is that the more money you save on it, fewer taxes can come out from your paycheck. In addition to this, your money will grow faster instead of putting it into a savings account.
What is a Health Savings Account (HSA)
Another account that you should be looking into is the Health Savings Account. It can be used as a retirement account by choosing a high deductible health plan with your employer as well opening an HSA as an investment account. The benefits you get from an HSA includes your money goes and grows pre-tax, and the money and contributions you get are not taxable as soon as you decide to pull them out for qualified medical expenses. This only means you are on a tax-free growth throughout the year. Make sure you keep all your medical receipts, let it compound, and allow the interest to do what it needs to do in order to maximize your money’s growth. Once you need the money, you can present all of your receipts and withdraw your money without tax charges. You can then use the money for your retirement.
Which among the three is better?
Most people prefer using an HSA instead of an IRA or 401 (k) for several reasons. One of them is that with HSA, you can use your money just like an IRA or 401 (k) if after the age 65 you won’t need your HSA funds for medical expenses or insurance premiums yet. You will still pay taxes for withdrawals made without any medical reasons but after the age 65, withdrawals will be taxed free. The age plays a primary difference with regards to the tax applied and penalty taxes. Thus, if you’re one of those who only has limited amount of money, to save, its best to first fund your 401 (k) plan in order to benefit from any employer match, use the savings you get from the match amount to fund the HSA account and fund a traditional or Roth IRA. You also have the choice to fund more money for more 401 (k) contributions.
