Taxation Risk
Pay Now Or Pay Later
Taxes have been around for a long time. Today, our tax system is much more complicated because of changing rules by the government. The tax laws are written in a document that has 6,550 pages, and there are even more words of tax regulations to explain those pages.
Three Ways of Taxation
When saving for retirement, your money can be taxed in three ways: taxable, tax-deferred, and tax-free. Each has its own rules and advantages, but many people put all their retirement savings in just one or two categories. This can be a problem if the tax rates or regulations change, and you can’t adjust your retirement income accordingly.
For instance, let’s look at siblings Ben and Grace. Ben has money in a traditional IRA, and Grace has stocks. When Ben takes money out of his IRA account, he must pay ordinary income taxes on the entire amount at his regular income tax rate, which can be as high as 37%. Whereas, when Grace sells her stocks, she only pays capital gain taxes on the profit she makes while owning them, and her long-term capital gain tax rate is up to 20%.
Ben got a tax deduction when he put money into his IRA, but Grace didn’t get any tax breaks when she bought her stocks. Imagine if the government raised the tax rate for ordinary income but kept the capital gains tax rate the same. Ben would end up with less money after taxes compared to Grace.
That’s why having a retirement strategy that considers taxes is important. Just like you diversify your investments, you should also diversify your retirement savings into different types of accounts with other tax treatments. You can adjust your retirement plan if the tax rates or rules change.
Consult a financial professional to learn how insurance and retirement accounts can work together to help you with taxes and provide income when you retire. Get in touch now to discuss your options and make more informed choices for your future.
Watch the video above for more information.
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