Some tax-advantaged accounts used to pay for retirement, healthcare, and educational costs can help you avoid paying taxes on interest.
These accounts, however, have limitations that make them inappropriate for storing emergency funds. Consult a financial counselor for advice on how to save for different goals while reducing your tax liability.
Traditional Savings Accounts: Low Interest and Tax
Some tax-advantaged accounts used to pay for retirement, healthcare, and educational costs can help you avoid paying taxes on interest.
These accounts, however, have limitations that make them inappropriate for storing emergency funds.
Consult a financial counselor for advice on how to save for different goals while reducing your tax liability.
Taxes must be paid even if the interest is not withdrawn and spent and is instead kept in the account at the owners’ usual tax rates according to income.
The tax you must pay from the interest income in your retirement account is typically unavoidable.
Most places where you keep money require you to pay fee on earned interest, particularly secure areas like a savings account.
There is no getting out of paying the assessment once you reach the $10 threshold since it will be reported to the IRS.
There are, however, two ways to keep the interest you receive on your savings account tax-free.
Both strategies entail keeping your money out of an ordinary savings account and into an advantaged one. You should search for the following two types of tax-advantaged savings accounts:
- A bank account that accepts pre-tax deposits.
- An account that enables tax-free growth of the money in the account
Read more: The Retirement Savings Gap: Why Millennials Are Struggling To Save Enough
Planning for Your Financial Future
None of the accounts provide the same flexibility as a traditional savings account, but if you have a sizeable amount saved, they can save you quite a little on taxes.
The principal types of tax-advantaged savings accounts are:
Interest generated in a Roth account, such as a Roth IRA or Roth 401(k), is not taxed until it is withdrawn. Also, you won’t pay any income taxes on the interest if you are older than 59 or 12 years old.
Traditional IRAs and non-Roth 401(k) account: Unlike conventional savings accounts, these funds do not have to pay taxes on interest collected in the year it is generated.
Coverdell savings accounts: They are intended to assist parents in covering the costs of their minor children’s education.
529 college savings plans: In a 529 plan, interest on deposits grows tax-free, and withdrawals are similarly tax-free when used for certain educational costs.
Choosing which of these solutions would be a suitable fit for your needs can be challenging, but you don’t have to make that choice on your own.
The ideal match for your financial environment can be determined in collaboration with your financial counselor.
Each of these plans is also non-exclusive. To get the most out of each, combine it with one or more other accounts.
Read more: Where Will The IRS Invest Its $80 Billion In New Funding?
