There are many different types of investment accounts that you can deposit your money into. Tax free, tax privileged, tax privileged, traditional – with so many different options, it can be overwhelming to decide where to put your money. In this article, we're going to go over 5 different types of investment accounts that you should have. Note that we're not talking about checking or savings accounts here. It is wise to keep a few months of savings in a liquid account Emergency fund. But with interest rates this low, money that makes 1% or less annually is likely to lose money to inflation.
401 (k) or similar retirement account
The first investment account we'll talk about is the 401 (k) plan. Most employees have access to one 401 (k) through their company. Some companies do not offer these plans, while some public sector employees do Use a 403 (b) plan and the self-employed have access to a SEP IRA. These plans all work in a similar way – money you deposit doesn't count as taxable income, and you pay tax when you withdraw the money.
The real magic with a 401 (k) plan is that many employers offer a way to pool the funds you have deposited. Sometimes they cover 100% of all funds you deposit, up to a certain amount, and sometimes companies compensate some of your contributions. If your employer has a 401 (k) match, you'll definitely want to contribute to your 401 (k), at least to the point where you get all of the free money your employer contributes.
Individual retirement account (IRA)
Another investment account that helps you save for retirement is an individual retirement account, or IRA for short. There are two main types of IRAs – a Roth IRA and what is known as a traditional IRA. These two types of accounts can help you save money for retirement, but work in slightly different ways.
A traditional IRA works similarly to a 401 (k). Your contributions will usually not count towards your taxable income and you will have to pay tax on the contributions and income as soon as you withdraw them. In a Roth IRA, you will pay tax on every amount you deposit this year. However, when you then retire and withdraw from your account, you will not have to pay any taxes on any contributions or earnings. This makes it a great investment plan for young people or others who are in a low tax bracket. Both a traditional IRA and a Roth IRA are subject to income and contribution limits.
529 college savings plan
A 529 college savings plan is a way to save on college and other college expenses. 529 plans are typically offered by individual states to save on future education expenses. You don't have to contribute to the 529 plan of the state you live in, but there are often state tax benefits available for doing so. Money contributed to a 529 plan is similar to investing in a Roth IRA – you contribute with after-tax money. Then, as long as you use it for qualified educational expenses, you can withdraw the main amount and any income tax-free.
Health savings account
A Health Savings Account (HSA) is one way to pay for qualified medical expenses with tax-free money. An HSA actually has three different tax benefits:
You can deduct contributions from your taxes
You can withdraw your money tax-free (if used for medical expenses)
Your income grows tax-free
You have to be registered with an HSA, you have to be Member of an eligible health insurance with a high deductible, but the benefits of contributing and investing in an HSA are hard to ignore. In fact, it can make sense to do so and grow the money in your HSA tax-free when you have the funds to pay your current medical expenses.
Standard brokerage account
The last type of investment account we'll talk about is a standard brokerage account. There are no tax breaks with a standard investment account – you get no tax break on the money you deposit and you pay tax on any income when you sell.
You should invest in any options that give you tax benefits first, but if you hit income or contribution limits, a standard brokerage account can make a lot of sense. This gives your investments a better chance of keeping up with inflation.
The bottom line
There are several places where you can put your money. It is important that you invest your extra money in more than just a checking or savings account that barely earns interest. This is a surefire way to let inflation erode your spending power. You should focus your investment on accounts that offer tax benefits, but the rest of the money can be put in a standard brokerage account.
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Dan Miller (66 posts)
Dan Miller is a freelance writer and founder of PointsWithACrew.com, a website that helps families travel for free / cheaply. His home base is in Cincinnati, but he tries to travel the world as much as possible with his wife and 6 children.