Choosing to Work Smart – Tax Advantage Investing

Consider the following two scenarios: In case number one, you work for a medium to large corporation. One bright morning, your boss walks into your office (to find you busily working on your company assignment) and offers you a $4,000 bonus. But you say, "Thanks a lot, boss. I really appreciate the gesture, but, I really don’t think I want to bother with the extra money".

Or scenario number two where you work for a government or non-profit organization where you are told that you can receive the first $7800 of your annual compensation before taxes, or after taxes. You ponder the two options, deducing that the before tax scenario allows you to claim the entire $7800 whereas the after tax scenario leaves you with $5616 after the $2184 is passed on to Uncle Sam (28% tax bracket). Being an altruist at heart, you choose to collect your first $7800 after taxes!

In both scenarios, you have rejected the opportunity to take advantage of thousands of dollars over the years of your employment that could have been building toward your retirement nest egg. Strange as it may seem, almost fifty percent of today’s workers fit into one of these two scenarios.

Tax deferred savings plans, often referred to as 401(k) or deferred compensation plans, are available to thousands of private sector and government employees. These deferred compensation plans, which are designed to be supplemental retirement plans, allows us to make the opposite choices of those that were made in the above scenarios.

Government and non profit deferred compensation plans were designed to allow employees to "defer" a percentage of their annual income into a supplemental retirement account on a "pre-tax" basis. This means that an employee is allowed to keep more of their income for supplemental retirement than they would otherwise be allowed to "take home" if they collected the income after taxes.

The situation is even more compelling for certain private sector employees whose pre tax supplemental retirement is matched, by as much as two to one, by the employer. By participating in the company’s 401(k) program, the employee can avoid the ridiculous outcome of the first scenario where the employee simply does not bother to accept several thousand dollars that are being offered by the employer.

The advantages of participation in these supplemental retirement programs become even more impressive over time when one considers that these opportunities repeat themselves every year of employment, and that the funds in these accounts grow on a compounding basis tax-free. Taxes are paid on the deferred income and capital gains when the employee ceases to work for the sponsoring employer if the employee chooses to cash in the saved funds upon termination. Or the tax consequences can be further deferred by "rolling" the funds over into another qualified plan. In this latter case, the funds would continue to grow tax deferred until the worker reaches retirement age.

There are similar, albeit less spectacular alternatives available beyond the ones that have been mentioned so far. They include the traditional Individual Retirement Account (IRA), the Roth IRA, Simplified Employee Pension Plan (SEP), and Tax Deferred Annuity. All of these investment alternatives offer varying degrees of opportunity to enhance our chances for a financially secure future.

Are you part of the fifty percent of employees who have yet to claim the extra funds which should be accruing to your supplemental retirement account? If so, you may be working hard, but you are not working smart.

The road to future economic prosperity begins with the first step. Contact your employer’s benefits liaison today and begin to chart a more secure financial future for yourself and your family. You can start today, even if its with a very small amount. You can always add a little more to the plan once you realize how little you missed the amount you were already deferring. One good way to begin or increase your deferral is to apply the amount of your raise or cost of living allowance to your supplemental retirement account. This would simply require that you do not ratchet up your living standard every time you receive a raise.

Similarly, one can fund an IRA account from their tax refund, up to $2,000.

There are documented cases of where everyday, common workers have amassed a small fortune, in excess on a million dollars, utilizing these strategies over the span of their career.

We have all heard about the precarious future of our social security system. Does that mean that your own financial future must be equally as precarious? Fifty percent of us can answer this question with a resounding no. The answer for the other fifty- percent is contingent upon their choices and actions from this day forward.