How Taxes Affect Your Retirement Savings Growth

By Brent Meyer — SafeMoney.com Founder & Editor Reviewed by Licensed Financial Professionals  |  SafeMoney.com — Trusted Since 2011  |  Updated Regularly Quick Answer: See how taxes silently erode your retirement savings growth. Compare tax-deferred, tax-free, and taxable accounts to maximize your retirement nest egg. There are only two sure things in this life, and they are death and taxes. Taxes affect us at every turn financially, and investments are no exception. The taxation of your assets can have a substantial impact on how much money you end up with . As any financial advisor will tell you, it’s not what you make that matters, it’s what you get to keep. Increase Your Nest Egg with Tax Deferral With that in mind, there are ways to increase the stockpile of savings that you have for your post-career lifestyle. ‘Tax-me-later’ vehicles can increase the amount of money that you have in retirement. In financial circles, this sort of vehicle is known as a tax-deferred asset. In other words, it’s an asset where you don’t pay taxes on your money until you start making withdrawals from there. When you do withdraw money from this asset, you will pay income taxes on the withdrawn amount. Tax Deferral Has Limits The upside with this option is your money can grow for years without taxes slowing down its growth. There are age limits to the benefit of tax deferral, however. Under IRS tax rules, when you withdraw money from a tax-deferred vehicle before age 59.5, you will likely have to pay a 10% penalty for an “early withdrawal” as well as income taxes. If this vehicle is inside a retirement account like a traditional IRA , you will also be required to start taking withdrawals at a certain age. In these situations, the growth benefit of tax deferral can’t continue forever. Under current tax law, once someone turns age 73, they must start taking required minimum distributions (or RMDs) from their traditional IRA. Since the money grew tax-free inside the account for so many years, this is so that the federal government can ensure that it’s still able to collect tax revenues on the retirement money. How Can the Power of Tax Deferral Benefit You? Below, the illustration shows how tax-deferred growth can potentially increase your nest egg over time compared to taxable growth. In a taxable vehicle such as a bank CD , your money can grow each year. But paying annual taxes on the growth can take a big chunk out of what you would o