Taxes made simple: Getting the most out of your retirement accounts

Practical tips to help you optimize your taxes when it comes to retirement planning.

When it comes to taxes and your retirement account, a little planning and knowledge can go a long way. This guide covers key planning areas to help optimize your taxes through retirement accounts.

In this guide, we cover:

• Reporting and filing taxes: Traditional and Roth accounts
• Contribution limits for traditional and Roth accounts
• Tax benefits of traditional and Roth contributions
• Reducing your tax bill with the Saver’s Credit
• Managing withdrawals and Required Minimum Distributions (RMDs)
  
  

Reporting and filing taxes

Taxes aren’t always fun, but here are a few tips to make them easier.

How to report traditional and Roth contributions on your taxes

When you contribute to a retirement account, whether it’s a 401(k) or an IRA, the way you report it on your tax return depends on the type of account:

• Traditional accounts: These contributions are generally tax deductible because they're made with pre-tax dollars, so you’ll report them on your tax return. This means that when you contribute to your traditional 401(k) or IRA, your taxable income is reduced by the amount of your contribution, which can lower your tax bill for the year. However, you’ll pay taxes on withdrawals later in retirement.
• Roth accounts: If you're contributing to a Roth 401(k) or an IRA, those contributions are made with after-tax dollars, so they don't lower your current taxable income. You won’t report these contributions on your tax return.

Wondering if an IRA is right for you? Read our blog to see the potential benefits of an IRA in addition to your 401(k).

Three practical tax filing tips

When you’re ready to file, keep these tips in mind to help everything go smoothly. 

1) Use tax preparation software or consult a professional

Filing your taxes accurately is essential to capture all your retirement-related benefits. Whether you opt for user-friendly tax software or choose to work with a tax professional, the goal is to ensure you’re making the most of every deduction and credit available.

2) Keep detailed financial records year-round

Staying organized is key! Keep a detailed record of all your contributions, receipts, and financial statements throughout the year. This practice not only simplifies tax filing but also ensures you don’t miss any valuable deductions or credits. Plus, some tax preparers will charge an extra fee for disorganized files and paperwork.

3) Use electronic filing for faster refunds

If you’re looking to streamline the process even further, consider filing electronically. E-filing is fast and secure, and typically leads to quicker refunds, allowing you to reinvest your money sooner.

Contribution rules and limits for 401(k)s and IRAs

Each year, the IRS sets limits on how much you can contribute to your 401(k) and IRA. Staying within these limits not only helps you avoid penalties but also ensures you’re making the most of any tax advantages that are available to you. 

If you’re 50 or older, you’re allowed to make “catch-up contributions.” These extra contributions can boost your retirement savings and offer additional tax advantages—whether you’re in a traditional or Roth account. It’s a smart way to ensure you’re on track as retirement draws nearer.

For the 2024 tax year, contribution limits are:

• 401(k) contributions:
  • Under age 50: You can contribute up to $23,000.
  • Age 50 and older (Catch-up contribution): You can add an extra $7,500, bringing your total to $30,500.
• IRA contributions:
  • Under age 50: The contribution limit is $7,000.
  • Age 50 and older (Catch-up contribution): The limit increases to $8,000.
    
    

Tax benefits & savings of retirement accounts

At Betterment, we help you automate much of your retirement savings. But even with automation, it’s still good to know the details about the tax benefits so you can select the account type that’s right for your goals. 

Tax benefits of traditional and Roth contributions

There are three potential tax benefits that come from retirement plan contributions:

1. Immediate tax savings (Traditional accounts): Because traditional 401(k) or IRA contributions are made with pre-tax dollars, they lower your taxable income for the year. If you are maxing out your contributions, you could see a significant reduction in your current tax bill, which could even move you to a lower tax bracket, depending on your income level.
2. Tax-deferred growth (Traditional accounts): The money in your traditional 401(k) or IRA grows tax-deferred until you withdraw it in retirement. This allows your investments to compound without being eroded by annual taxes, potentially leading to a larger nest egg.
3. Tax-free withdrawals (Roth accounts): Because Roth 401(k) and IRA contributions are made with after-tax money, qualified withdrawals in retirement are completely tax-free. This can be especially beneficial if you expect to be in a higher tax bracket later on.
   
   

Reducing your tax bill with the Saver’s Credit

For those with low- to moderate-income, the Saver’s Credit is a real game-changer. This credit rewards you for putting money into your retirement accounts by reducing your tax bill directly. It’s like getting a bonus just for saving for the future.

You're eligible for the credit if you meet the following:

1. Age 18 or older
2. Not claimed as a dependent on another person’s return
3. Not a student

The amount of this credit — 10%, 20%, or 50% of contributions, based on filing status and adjusted gross income — directly reduces the amount of tax owed.

Triple tax savings from Health Savings Accounts (HSAs)

HSAs are often overlooked as a retirement planning tool. These accounts offer a triple tax advantage:

1. Tax-deductible contributions: These contributions lower your taxable income, reducing the amount of income on which you pay taxes for that year.
2. Tax-free growth: Your investments can increase in value without being taxed annually, allowing your earnings to compound more effectively over time.
3. Tax-free withdrawals for qualified medical expenses: You can withdraw funds to cover eligible healthcare costs without incurring taxes on those amounts.

This makes HSAs a powerful way to cover healthcare costs in retirement while also benefiting from significant tax savings.

Withdrawals and required distributions

Saving for retirement is just the start. As you get into your 50s, it's wise to start planning for how and when to take distributions. 

Tax implications of early withdrawals

Taking money out of your retirement accounts before age 59½ can come with a hefty tax penalty. Not only will you owe regular income tax on the amount, but you might also face an extra 10% penalty. It pays to plan ahead and avoid tapping into your funds prematurely. If you’re in your 50s, check out these four practical tips to help plan for retirement.

Understanding Required Minimum Distributions (RMDs)

For those aged 73 and older, the IRS requires you to start taking a minimum amount from your retirement accounts each year—known as Required Minimum Distributions (RMDs). Missing an RMD can lead to significant penalties, so it’s important to calculate and plan for them. To learn more about the details of RMDs, read our blog, What is a required minimum distribution?