When it comes to financial planning, there are times when it can seem at odds with your tax planning efforts. Yet the reality is that good tax planning and financial planning can go hand in hand to your benefit. Let’s concentrate on four main areas where the benefits from one or the other come together. Still, it is important to remember that consulting with your tax professional or accountant, such as L. James & Associates in Denver, CO, can provide you with a better idea of the tax implications of various financial choices.
Roth Contributions or Conversions
While it might seem that a Roth provides the means to avoid paying a much higher tax when they take distributions from their IRA, the reality is that most individuals will find themselves in a position of having a limited tax liability when they retire, because most of their income will be based on sources that are more tax friendly to retirees. Simply put, depending on the state, retirees may not have to pay taxes on the income distributed from these funds at all. Therefore, it might be worth considering other retirement saving options that give you tax benefits in the present, versus future tax benefits that you might not really need.
401(k) Contributions
While it might seem as if the tax benefits for your IRA contributions make it a no brainer, there may be other issues at stake. Namely, if you need to access those funds in a dire financial situation, it will end up costing you in terms of taxes and penalties. The reality is that the best financial planning options include having access to 30 percent of your net worth in after-tax liquid assets. The only way to do this may include building an after-tax safety net is to acknowledge the tax costs of making their maximum IRA contributions on an annual basis.
Therefore, working with your financial planner, it might be more critical to make a decision to build an emergency fund before making the maximum contributions to your retirement fund.
Getting into Debt
When it comes to low interest rates, many people can make the argument that borrowing against their homes to invest is a smart move. Yet the reality is that debt is a fixed obligation, whereas investments have more fluctuations. The reality is that paying off your mortgage is more likely to end up being the better option, because you will not pay as much in interest by focusing on paying down your principal. This makes your home a long term asset or investment. At the same time, you also receive a tax benefit in terms of the interest that you pay on your mortgage during the time that you have a mortgage.
Additionally, there are retirement benefits in terms of lowering your expenses when you do not have to pay a mortgage during your retirement years. Consider paying off your mortgage as saving for retirement in some respects. Another point is that once you pay off your mortgage, that payment can now be invested and result in a larger return on your investment.
College Funding – Making Some Hard Choices
The reality is that saving for college using funds, such as the 529 plan, means that you are taking funds that could be used for multiple financial concerns and locking it away. If you are not in a position of being financially solvent, including having an appropriate amount of emergency savings and liquid assets that could be converted if needed, then it might not be the best move to tie funds up in a 529 savings program.
The struggle is that paying off debt is key to long term financial solvency during potential lean years or to reduce expenses in retirement. However, the reality is that many individuals prefer to know funds are being saved for college or to get the tax benefits. Still, it is important to consider when laying out your financial plan how to lower your debt, build your emergency fund and create an investment portfolio before tying up funds in these types of savings options that essentially lock them away for twenty plus years.
If you have already created your emergency fund and have an investment portfolio, then it might be worth considering taking advantage of these savings options.
Click on the link below to contact one of the tax professionals or accountants at L. James & Associates in Denver, CO, who can advise you on the tax implications of your current financial plan and help you to find the right balance for your unique circumstances.
