Americans have recently been inundated with reports that they are not saving adequately for retirement, as well as the consequences and ramifications of falling short during their golden years. Although there are a number of retirement options and accounts to choose from, understanding the difference between each can be complicated for individuals who are not well-versed in how they function and their respective tax treatments.
Individuals who are planning their retirement should explore and understand all their options prior to signing up to ensure they are making the best decision for their future.
401(k)s are one of the most common retirement accounts most Americans turn to, namely because this option is the more popular offering U.S. companies afford their employees. These accounts allow workers to put aside money from their paychecks before taxes are deducted, which reduces the amount of income taxes they pay each filing season. However, once they begin taking distributions from the fund at retirement age, they begin paying income taxes on the withdrawals. One of the benefits of a 401(k) account that makes them particularly popular is that many employers match their employees' contributions, essentially handing over free money.
Individuals may have also heard of 403(b) and 457 retirement plans at some point. These retirement accounts function similarly to 401(k)s. However, 403(b) plans are typically offered to employees who are employed by nonprofits and educational institutions. In a similar fashion, 457 plans are generally designed for employees of government institutions.
Individual retirement accounts, or IRAs, are another popular option for adults. These accounts differ in two primary ways from 401(k) accounts. First, individuals do not fund the account through their employer, but must open an IRA themselves through an investment firm. Accountholders are responsible for making contributions themselves and do not enjoy a company match that many employees with 401(k)s do. Second, IRA contributions are tax-deductible, meaning that individuals subtract the amount that they have allocated to the fund from their income. Similarly to 401(k)s, however, they must pay taxes on their withdrawals when they begin receiving distributions.
Roth 401(k)s and Roth IRAs eliminate an accountholder's requirement to pay income taxes on their distributions. Individuals who hold these accounts make contributions from their take-home pay, after taxes have already been taken out. Because they pay taxes beforehand, they are not required to pay income taxes on their withdrawals.
Understanding the tax treatment of different retirement plans - and the pros and cons of each - can help adults make the best decision for them. But because these factors can be confusing, speaking to a tax professional may help them better understand their options.
About Liberty Tax Service
Liberty Tax Service is the fastest -growing retail tax preparation company in the industry’s history. Founded in 1997 by CEO John T. Hewitt, a pioneer in the tax industry, Liberty Tax Service has prepared over 8,000,000 individual income tax returns. With 42 years of tax industry experience, Hewitt stands as the most experienced CEO in the tax preparation business, having also founded Jackson Hewitt Tax Service.Liberty Tax Service
is the only tax franchise on the Forbes “Top 20 Franchises to Start,”
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