Tax Considerations to Keep in Mind When Contributing to Your IRA or 401(k)

Tax Considerations to Keep in Mind When Contributing to Your IRA or 401(k)  Even if your retirement is several years away, you need to keep all sorts of things in mind when planning for it: where you’ll want to live, whether you’ll rent or buy a new home, and how you’ll strategize your 401(k) and IRA contributions to come out ahead tax-wise. As always, you’ll want to talk to your financial planner or tax professional to ensure you’re being smart with your retirement savings as it relates to your taxes, but here are four things to consider.

Think About the Future

In an article for U.S. News & World Report, David Ning of Money Ning notes that your current tax bracket will most likely change after you retire. While no one can predict future tax laws, if you currently find yourself in an upper income tax bracket, a traditional IRA or 401(k) will likely beat a Roth IRA. That’s because with a traditional IRA or 401(k), taxes aren’t due until you use that money (i.e. when you’re retired), at which point you’ll likely be in a lower tax bracket. With Roth IRAs, you pay those taxes on the funds now instead of during retirement (subject to income maximum limitations).

Take Note of Rising Contribution Limits

Right now in particular is a great time to reap the tax benefits of a 401(k) or IRA. The IRS announced that for 2013, they’re raising the limits from $17,000 to $17,500 for 401(k) contributions, and $5,000 to $5,500 for traditional and Roth IRAs, according to the Washington Post. Since 401(k) and traditional IRA contributions are made pre-tax, taking advantage of that extra $500 will work in your favor right now. 

Roth IRA Losses May Be Tax Deductible

Finance blog Good Financial Cents notes that if your Roth IRA has decreased over the years, you may be able to claim that loss on your tax return. They note that to do this, you must meet the following four criteria:

  • All of your Roth IRA accounts must be closed.
  • You must claim the loss on an itemized tax return.
  • Your Roth IRA loss must be more than 2 percent of your Adjustable Gross Income (AGI); only the amount above that 2 percent can be claimed.
  • You can’t be subject to the Alternative Minimum Tax (AMT).

Your Traditional IRA Contributions May Be Tax Deductible

As for tax benefits you can take advantage of now, Investopedia notes that if you don’t participate in a SEP IRA or SIMPLE IRA (both employee-sponsored IRA plans), or some other qualified plan, and also have a traditional IRA, these contributions may be tax deductible. If you find you’re only eligible for a partial deduction, you may want to split your contributions between a traditional and Roth IRA.

How do taxes affect how you save for retirement? Is a traditional or Roth IRA better for your retirement plan?

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