3 Golden Opportunities to Make Investing Less Expensive

Did you know the government wants to subsidize your retirement savings to make it easier for you to build a nest egg to support yourself in your later years?

It’s up to you to take advantage of these offers, so be sure you don’t miss out on these three golden opportunities to make savings less expensive.

1. Invest in a 401(k)

If you want to reduce your investment costs, a 401(k) is a great option. It allows contributions with pre-tax dollars. Your employer must offer this type of account for you to be eligible, though. Or you can open a Solo 401(k) if you’re self-employed.

When you invest with pre-tax dollars, the government subsidizes the investment because your take-home income isn’t actually reduced by the full amount contributed.

In 2021, for example, the 401(k) contribution limit is $19,500, or $26,000 for those 50 and over who get to make special extra “catch-up” contributions. If you make a $19,500 contribution (or whatever amount you can afford), your taxable income is reduced by that amount.

The savings you accumulate depend on your tax bracket, since it comes from the fact that you aren’t paying taxes on the contributed amount. If you were in the 22% tax bracket, a $19,500 contribution could save you as much as $4,290 in taxes. With the tax savings factored in, the contribution actually “costs” you just $15,210 — which is significantly less expensive than $19,500.

Now, if you’re in a higher tax bracket, your savings would be greater. And if some or all of the money you invested would be taxed at a lower rate than 22%, your savings would be less. But, regardless of the specifics, there’s no denying that 401(k) contributions don’t cost as much as those made to taxable accounts.

You will eventually be taxed on distributions from your 401(k). But that will happen far into the future, and your tax rate at the time may be lower since you’ll be in retirement. In the meantime, the fact that your investment is less expensive now makes it easier for you to save for your later years.

2. Invest in an IRA

An IRA works in a similar way to a 401(k) in that you take a deduction for contributions in the year you make them.

In 2021, you can make a tax-deductible IRA contribution of up to $6,000, or $7,000 if you’re 50 or older and eligible for catch-up contributions. The savings on your taxes could be as high as $1,320 if you invest $6,000 and are in the 22% tax bracket. So, again, the contribution would cost you less than the full amount — in this case, just $4,680.

Unlike a 401(k), you don’t need an employer to open an IRA for you, so it’s a great option if your workplace doesn’t offer a retirement plan. But there are income limits to make deductible contributions, so not everyone can invest in an IRA. And, as with a 401(k), taxes will be assessed on distributions as a retiree — but that doesn’t change the fact that IRAs make investing less expensive at the time of your contribution.

3. Invest in an HSA

Finally, a Health Savings Account (HSA) provides even better tax breaks than a 401(k) or an IRA, but eligibility requirements are narrower. You’ll be eligible to contribute to one only if you have a qualifying high deductible healthcare plan.

The great news about HSAs is that they provide up-front tax savings in the year of the contribution, and you won’t pay taxes on withdrawals made for qualifying healthcare expenses. This makes investing even cheaper than with the other two accounts, since you don’t end up with a tax bill later in exchange for the up-front savings.

You can take money out of an HSA for medical care whenever you’d like, or leave it invested to grow tax-free for decades until you need to fund medical care as a retiree. After age 65, you’re also allowed to withdraw the funds for other purposes without incurring penalties, but that would be taxed at your ordinary rate.

Each of these accounts offers options to reduce your current year’s taxable income by saving for your future. There’s little reason not to take advantage of them to reduce the costs of investing, thanks to the tax savings the IRS is offering you.

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