Options for a Tax Free Savings Account
- Proper planning will save you money come tax time.TAX TIME image by brelsbil from Fotolia.com
Savings accounts don't offer much of a return, and a good portion of what they do pay goes to the federal and state governments. When you combine the effects of inflation with low rates and taxes, it is often difficult to break even on your "safe" investments. However, the government doesn't consider all savings equal. If you know what you're saving for there are a number of ways to structure your savings that will allow you to keep the interest out of the IRS's hands. - If you're going to use your savings for you, your child's, your spouse's or your grandchild's college expenses, a 529 College Savings Plan is a good investment vehicle. The money will grow free from federal taxes and most state's taxes, some states also give you a deduction for contributions. The catch, if the beneficiary does not use the money for college expenses there will be a tax penalty.
- A Roth IRA is a very flexible retirement account, if you meet the income limits it's a great place for your savings to grow tax free. Unlike a traditional IRA, contributions can be withdrawn at any time without penalty. Interest can be withdrawn tax and penalty free after you reach retirement age or setup regular distributions. You can also make tax and penalty free withdrawals for a first time home purchase after the account has been open five years. A savings account is just one of a number of investments you can make with a Roth IRA.
- Health savings accounts (HSAs) are supplemental accounts to pay for medical expenses not covered by an individual's High Deductible Health Plan (HDHP), a HDHP is a barebones health insurance policy with a higher than ordinary deductible. HSAs have tax free earnings and contributions, meaning you're not taxed income tax on the money you put in or on the interest you earn. Like other tax free accounts there is a penalty if you use the money for non-health related expenses.
- They're technically not savings accounts, they're not backed by FDIC insurance, and you'll have to invest for a specified period of time if you purchase individual bonds; but for no string attached tax savings municipal bonds are hard to beat. The tax break that the federal government offers municipal bond holders helps cities and states compete with better paying corporate bonds. A great way to get started with municipal bonds is through a mutual fund that deals specifically with bonds from your state or city.
