Taxes 2021: Saving money on taxes with employer retirement plans

Employer-sponsored retirement plans can help you save money on taxes.

Video Transcript

- Besides helping you build income for your retirement, retirement plans may offer the added benefit of reducing the effects of taxes. Many offer potential to build tax-deferred value, and some allow you to reduce your taxes on current income as well by offering tax-deductible contributions. Tax-deferred means that any earnings that build up in your plan are not currently taxed, unlike other types of investments.

Once you withdraw, either at retirement or before, your earnings from these plans may be subject to taxes. Even though you may have to pay taxes on your retirement plan earnings when you withdraw, you may still pay less than if you had that income taxed as it was being earned. This is because you'll likely have a lower income in retirement, which might place you in a lower tax bracket.

Some employer-sponsored plans allow you to contribute your income pre-tax so you don't have to pay taxes on the money you'll contribute today, at least not until you withdraw. With some non-employer sponsored plans, your contributions can be taken as deductions from your income for tax purposes. However there is a price to be paid for all of this tax freedom. With most plans, any money you take out prior to retirement can be subject to a 10% federal tax penalty, in addition to being taxed. There are also limitations to how much you can contribute to some plans based on your income or employment status. Stay financially fit, friends.