Why tax season is the best time for retirement planning
Once again, the time of year is upon us: tax season. While most people focus on checking the boxes and submitting their returns, this time presents a good opportunity for retirement savers to talk to their advisors about investing strategies. Without their advisor’s guidance, the average person might miss out on potential deductions and credits that could help them save money in the long run.
Advisors can consider the following factors when developing tax strategies to help clients plan for retirement:
Staying in a 401(k) versus rolling over
Depending on a client’s financial goals, an advisor may find it suitable to keep their clients’ assets in a 401(k), rather than rolling them over into an IRA. Investments in a client’s 401(k) plan may offer lower fees or better returns than those in an IRA rollover. Additionally, some plans allow for penalty-free withdrawals at age 55 under certain circumstances.
Traditional or Roth accounts
Traditional and Roth 401(k)s are both tax-advantaged retirement accounts. Traditional contributions may reduce a client's taxable income now and grow tax-deferred, where withdrawals are taxed as ordinary income. This option may be beneficial for clients who anticipate being in a lower tax bracket in retirement.
On the other hand, Roth contributions are made with after-tax dollars, meaning they don’t provide an immediate tax deduction—but qualified withdrawals and earnings in retirement are made tax-free. This can be advantageous for clients who expect to be in a higher tax bracket in the future.
Advisors may find opportunities to help clients convert traditional 401(k) or IRA funds into a Roth IRA. Keep in mind that Roth conversions trigger taxable income in the year of conversion, so it’s essential to evaluate the timing carefully.
Tax-efficient investment and withdrawal strategies
The most common investment vehicle in a workplace retirement account is the target-date fund, which promotes an easy, set-it-and-forget-it investing strategy. However, as a client nears retirement, it may be beneficial to reassess their investment strategy, which can minimize unnecessary tax liabilities and ultimately help them keep more of their hard-earned savings.
When it comes to accessing funds, advisors may want to use tax-efficient withdrawal strategies to help clients remain in the appropriate tax bracket. Whether or not advisors consider recommending clients withdraw first from taxable or tax-deferred accounts will depend on their clients’ unique situation.
Asset location
Having a holistic view of client assets can help advisors decide how to allocate their clients’ investments across taxable and tax-deferred accounts. This approach may help advisors minimize their clients’ taxes and improve retirement outcomes.
Maximizing contributions
The amount clients contribute to their 401(k)s impacts their taxable income. Advisors can help clients determine if they should maximize 401(k) contributions, which can be made with pre-tax dollars, potentially reducing taxable income for the contribution year. Clients can also consider taking full advantage of any employer match to significantly enhance long-term savings. Furthermore, advisors can talk to clients about any bonuses or raises they may have received. This could be a good opportunity for them to increase their contributions, taking advantage of tax deferral.
Health savings accounts
Alongside a workplace retirement account, employers often offer Health Savings Accounts. A high-deductible plan allows participants to contribute pre-tax dollars, invest funds, and earn tax-free interest and dividends. Withdrawals from an HSA are tax-free when used for qualified medical expenses.
Don’t let tax season be just about filing paperwork—make it a time to strengthen long-term financial health.
With a complete view of a client's financial picture, financial advisors can make more informed decisions about retirement withdrawals, Roth conversions, and other tax planning strategies, empowering their client to build a more secure future.
For informational purposes only. Pontera is not an investment advisor or tax advisor.
