Retirement planning is one of the most pivotal financial tasks people take on during their lifetimes. Building a sufficient nest egg is imperative to not only maintaining a household's desired standard of living, but also ensuring that they don't face shortfalls during post-working years. Most individuals rely upon several different strategies to accrue enough money to last them through retirement, ranging from a traditional savings accounts and tax-advantaged accounts to assets and investments. When it comes to managing these accounts, taking taxes into consideration is important to avoid large liabilities and plan ahead.
Many people may make the mistake of not taking federal taxes into account when planning ahead, a move that may diminish their savings when their tax bill is due. Understanding these common missteps can help workers avoid them and establish an effective and cost-efficient savings strategy.
For instance, many people fail to understand tax diversification and how this may impact their liability over time, according to Prudential Financial. Tax diversification essentially means building an investment portfolio with different vehicles that may receive different tax treatment. To clarify, some vehicles - such as brokerage - are taxable, while other accounts - such as traditional IRAs and 401(k)s - are tax-deferred. Roth IRAs, in contrast, are tax-free. Understanding the tax treatment of different holdings can help individuals build a more well-rounded portfolio once they understand their potential liabilities.
Take income into account when retirement planning
A person's income may also greatly affect his or her potential tax bill each year, so it's important that workers make calculated decisions about their savings and investments. For example, a CBS News report noted that many Americans underestimate their future tax rate during their early working years. This scenario can leave them unexpectedly paying more in taxes than they realized when they grow older, so it's important to be realistic about their future rate and save accordingly.
Lastly, perhaps the largest retirement planning mistake any person can make, tax or otherwise, is failing to have a plan. Inconsistent savings habits, not calculating how much they may need for their post-working years and not contributing to a sponsored 401(k) or other tax-advantaged account can leave individuals far behind where they need to be as they approach their later years. Therefore, it can be helpful for workers to consult with a financial planner and tax preparer to better learn about different strategies that may help protect them after they leave the workforce.
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