Debt and Taxes, Part 4: Pension Protection

Posted on Posted in Newsletters

Retire in style with the help of the IRS

One of the best ways to make the IRS partially fund your lifestyle is by using one or more of the many tax incentives it provides to savers. We all know about deductible IRA’s, but these are limited to just $5,000 or $6,000 per year. There are many other types of pension and savings plans available to both employees and business owners that permit much higher deductions; for example, most defined contribution plans permit deductions (and retirement savings) of at least $50,000.

With a defined benefit pension plan, the maximum annual deduction is $200,000; by combining plans, you can write off (and sock away) up to $255,500 per year. And for really rich people, there are other types of savings vehicles that can allow annual deductions up to $1.2 million!

In general, all the earnings within these retirement plans are tax-free. But there’s a catch (there’s always a catch): you eventually have to start taking money out and paying tax on it. There are a number of ways to minimize how much you withdraw (provided, of course, you don’t need it all to live on) which I won’t go into here. Suffice to say that the primary benefit of all retirement plans is tax deferral, not avoidance. But that deferral can be worth a lot of money, particularly if you start early.

Then there are the Roths: IRA’s and 401(k) plans. You don’t get to deduct the money up front, but you never pay tax on any of the earnings, even when you withdraw funds. And you never have to take out any money if you don’t want, which makes it an ideal inheritance vehicle (and it’s relatively easy to limit how much your heirs can actually withdraw each year, preventing them from blowing it all in one place).

Roth 401(k) plans are particularly good in two situations: early in your career when you still have a lot of years before retirement and a relatively low tax bracket (making deductions less attractive) and during the last few years before retirement when you might not have many years of tax deferral left. During your peak earning years in between, the tax deduction and deferral opportunities usually make the regular 401(k) more attractive.

And now for some shameless self promotion: one of Kenfield’s core competencies is the set-up and management of pension plans, from plain vanilla 401(k)’s to complex combinations of defined benefit/profit sharing/money purchase plans.  If you or someone you know would like to start a plan, beef up an existing one or evaluate whether you’ve got the best (and most tax-efficient) plan for your needs, give us a call. We’ll thank you, your retirement will thank you, and hopefully the IRS will not thank you!

Remember, it’s not just what you make, it’s what you keep.

Dr. Ken Waltzer MD, MPH, AIF, CFA
Founder and President – Kenfield Capital Strategies (KCS)