Retirement is a time of great change and uncertainty. Tax planning may be one way to make sure you’re covered, but it’s often overlooked in our day-to-day life as we head into our golden years!
How can we change that?
Instead of thinking about tax planning, think of it as tax saving instead.
One of the best ways to save for the future is to open up and make contributions to a retirement plan.
This includes plans such as 401K, IRA, 403b, SEP or SIMPLE which can be made by an employee, employer or someone who is self-employed.
How Can Retirement Contributions Affect Your Tax Liability?
As we discussed in a previous post, the U.S. uses a progressive tax system for income taxation which consists of seven different tax brackets: 10%, 12%, 22%, 24%, 32%, 35% and 37%.
Based on your taxable income you would fall in one of these brackets.
The more money you make, the higher the bracket; the less money, the lesser the bracket.
But contributing to a retirement plan can help to lessen your tax burden.
Let’s take a closer look at the savings for a 401K and IRA plan.
With a 401(K) plan, you can increase your withholdings which can help you qualify for a huge tax break. For 2021, a 401(K) gives employees the ability to defer paying income tax on contributions up to $19,500.00.
If your income falls in the 24% tax bracket, you can take advantage of retirement savings by contributing the maximum amount allowed; this would save you approximately $4,680 in taxes.
IRA plan allows you to defer paying income taxes on up to the max of $6,000 of contributions. If you contributed the max into your individual retirement account you would reduce your tax bill by $1,440 using that same tax bracket of 24%.
Getting older has its perks though, especially for retirement plans. When you’re 50 years, you can qualify to make what’s called catch-up contributions to 401(K)s and IRAs. Employees 50 years or older can qualify to defer even more taxes on an additional $6,500 in their 401(k) plans for the year 2021 up to a $26,000 contribution.
For example, a 55-year-old worker in the 24% tax bracket who maxes out a 401(k) plan would save $6,240 in taxes which is approximately $1,560 more than workers that are younger. Older workers can also contribute up to $7,000 to an IRA, which equates to about $1,000 more than younger savers.
In other words, using specific strategies can not only decrease your tax responsibility but can secure more money in your pocket to have for retirement or to spend on luxuries. Choice is yours!
Tax planning plays a very important role in securing one’s financial future. The sooner you start the better off you will be.
Have questions or need help getting started? Contact me today!