Retirement And Taxes 101

401(k)s give you a tax boost

Dream Forward offers traditional 401(k) plans that gives you great tax savings because the money is invested pre-tax. 401(k) accounts help your nest egg grow as large as possible while simultaneously potentially reducing your income tax.

Below, you’ll also find a breakdown of the different types of retirement accounts.

Here's what "pre-tax" means

Say you wanted to invest $10,000 of your paycheck a year into your regular bank savings account. You would be able to invest only $8,000, because $2,000 of your paycheck is taken away by taxes.

With a 401(k), however, the money is taken straight from your paycheck and invested pre-tax ... so you can invest the full $10,000. You aren’t taxed until you start withdrawing from your 401(k) in retirement.

Why is pre-tax so helpful?

Let’s use the same example and say the stock market goes up 6% in a year. If you invested that $10,000 in a 401(k) account, it would gain $600 by the end of the year.

If you put your money into a regular brokerage account instead of your 401(k) - which would cause your savings to be taxed - you'd  be investing $8,000. With a smaller investment, you would gain only $480 if you put that money in the stock market. Pre tax helps you put the most money to work for you.

Also, since the money going straight into your 401(k) account also makes your paycheck lower in the eyes of the tax man, it may bump you down into a lower tax bracket at the end of the year, reducing your tax bill.

Explain the different account types

There are several different types of retirement accounts, and it can get confusing. The Dream Forward 401(k) is a traditional 401(k) account available through your employer.

You may have also heard about IRAs. IRAs have similar pre-tax benefits like a 401(k). The difference is IRAs aren’t offered through your employer and the maximum amount you can save in a 401(k) is much lower.

So what does "Roth" mean?

There are also Roth 401(k)s or Roth IRAs. Roth 401(k)s and Roth IRAs have the opposite tax approach - you pay taxes when you make deposits from your paycheck into your retirement account.

Whether you should use a Roth is a tricky question. If you use a Roth, you’re betting on what your future tax bracket will be.

Dream Forward will support the Roth option in the near feature.

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