I hate the tax man!

Jul 13

Any investors out there (lucky you) should ideally look for investment products that provide a good return but also suitable tax benefits. I have the following five investment options that should help an investor to take advantage of these tax breaks.

401K Plans
401(k) plan facilitates an employee to save for his retirement needs. An employee’s contributions are taken from his paycheck before taxes and are deducted, thereby lowering his salary income subjected to tax.

Based on employee’s salary and tax bracket, a $100 contribution into 401(k) each month would make his paycheck smaller by about $60 to $80 per month. This is a tax-deferred plan wherein the employee would be required to pay tax only upon withdrawal during his retirement.

Individual Retirement Account
Anyone having earned income can contribute to an Individual Retirement Account (IRA). Investor’s contribution to IRA or Roth IRA or both can’t exceed his earned income or $5,000 (for those aged 49 or younger) and $6,000 (for those aged 50 or older). The contributions towards IRA can be fully tax deductible based on contributor’s age, marital status, total income or whether contributor’s spouse is covered under a retirement plan through his / her employer.

Variable Annuity
A variable annuity is a contract whereby the insurance company agrees to make periodic payments to the contributor either immediately or at some future date. Variable annuities typically invest in mutual funds. The investor doesn’t pay any tax on the income and gains from his annuity till he withdraws his money. Hence this again is a tax-deferred facility. However most investors would benefit by exhausting maximum permissible contributions towards 401(k) and IRAs, before proceeding to invest in variable annuities.

529 Plans
529 plans help account holders also called college savers to open an account for a student beneficiary to help the latter meet his / her eligible college expenses. Thus these plans are intended to help save for future college costs. The account holder can select varied investment options. For instance he can choose an investment option covering stock mutual funds, money market funds and bond funds. This plan may offer the account holders with special tax benefits. For instance, earnings in such plans are not subjected to federal taxes and in most cases even state taxes are exempted provided the withdrawals from the plan are used to meet eligible college expenses like tuition, room and board fees.

Health Savings Account
Health Savings Account has two parts: interest bearing deposit account besides an investment account. The investor’s contribution towards HSA is tax-deductible. An investor can use HSA to pay for qualified medical expenses for himself, spouse and tax dependants. An investor can maximize his tax savings by contributing maximum amount permissible by Internal Revenue Service. For the year 2012, the maximum permissible amount is $3,100 for single coverage, while it is $6,250 for family coverage.

Thus an investor can avail variety of tax benefits while contemplating his savings towards children’s education, family’s medical needs besides retirement needs. By directing investments towards such tax efficient investments, an investor can enhance his post-tax income substantially.

Allan has been writing about personal finance and investment for over 3 years. Allan specialises in safe investment solutions including term deposits and bonds. When he is not blogging, Allan loves spending time with his family.