8 Long-Term Benefits of Using Tax-Deferred Accounts

Updated: Oct 25

Tax-deferred accounts allow you to put money aside right now and withdraw it later. You avoid taxes on income now, and you pay it upon withdrawal. If you’re trying to save up for retirement, tax-deferred accounts are exceptional.

Plenty of people already have tax-deferred accounts. If you’re not one of them, keep reading to find out how they could help your financial future. We’ll also outline a few other options you could use to set aside money for the future.

What Are Tax-Deferred Accounts?

A tax-deferred account allows you to pay your income taxes when you withdraw money instead of paying taxes immediately. These accounts also ensure that any gain while you hold the property isn’t taxed until withdrawal.

Common tax-deferred accounts include the following:

IRA: An individual retirement arrangement (IRA) allows you to make tax-deferred contributions that settle into an account to rest until you retire.
401(k): A 401(k) allows employees to contribute part of their wages into an individual account that can mature until retirement. Employers often provide this option as part of a comprehensive benefits package.
403(b): A tax-sheltered annuity—or 403(b)—is a retirement plan often provided by public school systems and tax-exempt organizations. Employees save in individual accounts, and employers may contribute too.

Some financial experts consider 1031 exchanges tax-deferred accounts too. These real estate transactions allow people to roll their tax liability from the sale of one property into the purchase of another. Those taxes aren’t due until the purchased property is sold, while the investment can continue growing in value.

How Many People Use Tax-Deferred Accounts?

For many people, tax-deferred accounts represent the best way to save for a financially secure retirement. In the mid 2020s, 37% of American households had IRAs. Many of them had these accounts as part of an employer benefit package.

While many people have these accounts, many more don’t. For example, an AARP study found that one in five Americans ages 50 and older have no retirement savings at all.

If you’re someone who doesn’t have a tax-deferred account, there are many reasons why you should consider opening one.

8 Tax-Deferred Account Benefits

While every individual is different, most people with a tax-deferred account would list the following as benefits of their savings strategies:

1. Lower Taxable Income

Many tax-deferred accounts allow investors to fund their savings with pre-tax dollars. For example, an employer-sponsored 401(k) allows participants to make contributions via payroll deductions. The money taken from an employee’s gross pay before taxes is withheld from the paycheck.

A strategy like this could significantly reduce the amount of tax you pay every year. You could use those savings toward a different investment, such as real estate.

2. Immediate Bonus

Many employers offer a contribution match to their employees. Staff can make contributions up to a specific limit, and the company will match that amount. This approach could offer employees the opportunity to immediately raise their compensation rate.

While this is a smart approach, many employees miss out. For example, the Society of Human Resources Management says one in four workers misses out on the full 401(k) match their employers are willing to provide.

3. Potential for Strategy Adjustments

While tax-deferred accounts are designed to grow with time, most allow for small changes and adjustments. For example, you could shift high-risk investments to low-risk versions as your retirement date approaches. Other types of assets, such as artwork or real estate, don’t come with this type of built-in flexibility.

4. Improved Potential Returns

A tax-deferred account can grow with time. For example, an IRA or 401(k) allows for investments in the stock market. If your investments grow, they work as larger investments and can also increase. An account like this could come with bigger returns than something like a savings account, which doesn’t accrue interest.

5. Reduced Future Tax Liability

In a traditional tax-deferred account, taxes are due when you make withdrawals. In most cases, that happens during retirement, and it could come with tax benefits.

For example, in 2022, about half of all older households had a yearly income of less than $50,290. Many of these households likely had larger incomes when they were active in the workforce. A reduced income means a lower tax bracket and a smaller payment burden.

6. Catch-Up Potential

Some types of tax-deferred accounts allow consumers to add more money (called catch-up contributions) as retirement age nears. If you didn’t save enough early in life, this approach could help you to correct that problem. Few other investment opportunities offer this same benefit.

7. Peace of Mind

Many people approach retirement age with fear or trepidation. For example, 55% of Generation X believe they won’t be financially prepared for retirement. They may feel intense stress with each passing birthday, wondering what the future might hold.

Opening and using a tax-deferred account could ensure that you’ve done all you can to prepare for a financially secure future. This can alleviate stress related to retirement.

8. Potential for Immediate Use

Some tax-deferred accounts allow people to withdraw their funds for qualified expenses. For example, you may be able to take money out of something like a 401(k) to purchase a home or fund an education. Other types of assets may require a sale to release the funds.

How Can You Start a Tax-Deferred Account?

Many types of tax-deferred accounts are part of an employer compensation package. When you’re searching for your next job, ask about the retirement benefits you might tap into if you join.

Some types of tax-deferred accounts—like self-employment 401(k)s—don’t require you to work with someone else to save up for retirement. Make an appointment with a broker or investment professional to find out what’s available to you.

If you hold investment property right now, you could use a 1031 exchange to swap that property for another. This transaction could help you save even more while avoiding nasty tax consequences.

Interested in Saving Money?

If you’re looking for a way to enhance your portfolio while avoiding current taxes, consider a 1031 exchange. At 1031 Pros, we specialize in helping investors with these complex transactions. We can ensure that your purchase moves as smoothly as possible and handle the details so you can focus on the future. Reach out to us today to learn more about how we can help.