By Anastasia Taber, CFP®
More young people are entering the investment marketplace today than ever before. According to CNBC, the average age of a new Gen Z retirement account holder is 19, down from 25 for Millennials and 35 for Baby Boomers. With a younger pool of investors growing larger, effective investment strategies are very important—especially tax planning.
But how exactly can tax planning assist young investors in optimizing their portfolios? TABER Asset Management looks at a few ways these strategies can help.
Different Kinds of Retirement Accounts
In today’s investment marketplace, two kinds of retirement plans dominate the market: traditional IRAs and Roth IRAs. Each is identified by its distinct tax implications for contributions and distribution.
Traditional IRAs
With a traditional IRA, investors can contribute to their retirement funds up to a certain annual limit. These contributions are made with pre-tax dollars, which serves to reduce your taxable income and lower tax burdens in the present. However, after you retire, any withdrawals you make from a traditional IRA become taxable.
Roth IRAs
A Roth IRA essentially works in reverse. Your contributions are made after the government withholds taxes from your paycheck, effectively making those contributions taxable. But after you retire, the distributions you take from the fund are completely tax-free.
Although both options are available to all investors, traditional IRAs are generally considered appropriate for those concerned about their current cash flow and income. Roth IRAs work well for people who can afford the tax hit now and want to make tax-free distributions in retirement.
Diversification and Prioritizing Contributions in Tax Planning
Diversification is a concept that comes up a lot in investments. When it comes to tax planning, diversification means spreading your money across different kinds of investment accounts with various tax rules.
The idea is to establish a mix of accounts—such as IRAs, brokerage accounts, health savings accounts, and other investments—with different tax implications. By doing this, an investor can offset tax losses in one account with gains from another kind of account. As the investment market tends to be cyclical, this balance is crucial to maintain.
If you prioritize making contributions to tax-advantaged accounts, you could expedite growth in your portfolio. In addition to saving on taxes, you have the chance to experience compounded growth through payments on both your principal amount and the interest it generates.
This is great for young investors. The more time you have to grow your investments, the bigger your returns can be and the more you can have for retirement.
Breaking Down Tax Burdens
Several investment areas play a role in tax planning. Some of the sources of taxation include:
Capital gains: What you make from selling assets at a profit
Dividends: Payments companies make to shareholders
Interest income: Earnings from lending money
Ordinary income: Taxes on salaries or wages
Federal and state agencies: What the government deducts from your paycheck
Take the time to account for these taxation sources and any others that might pertain to you.
Common Mistakes to Avoid in Tax Planning
Some of the basic mistakes young investors sometimes make while tax planning include:
Failing to take advantage of tax-advantaged accounts
Making trades too frequently, increasing their capital gains exposure
Misunderstanding tax brackets for making affordable contributions
Overlooking state and local taxes
Neglecting to seek input from a financial advisor with tax experience
Fortunately, young investors can avoid these missteps by taking deliberate and thoughtful measures.
Get Help in Planning for Investment Taxes
TABER Asset Management helps investors of all experience levels take steps to enhance their investments and optimize tax implications.
You can launch your financial journey by scheduling a 15-minute intro phone call online or reaching out to us at 515-557-1860 or invest@taberasset.com. We look forward to hearing from you.
About Anastasia
Anastasia Taber is an Associate Advisor and leads the financial planning services division at TABER Asset Management, an independent, fiduciary wealth management firm, in Alexandria, Virginia, that strives to do one thing well: manage their clients’ money by creating wealth, building wealth, growing income, and preserving capital so they can experience financial freedom. Anastasia is a CERTIFIED FINANCIAL PLANNER™ and has a Bachelor of Arts in English from Georgetown University. She has years of experience working for one of the largest REITS in the U.S., as well as in property management and accounting at a global law firm in Washington, D.C. Anastasia is passionate about exceeding her clients’ expectations and building caring, long-term relationships based on trust. She is known for being detail-oriented and committed to excellence in her work. Anastasia is a co-host on the Creating Wealth podcast. To learn more about Anastasia, connect with her on LinkedIn.
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