If you're evaluating annuity options and looking over annuity information, you'll run into information about the tax-sheltered annuity. What is a tax-sheltered annuity, and how does it compare with other annuity options?
You can defer your taxes with a tax-sheltered annuity.
When you contribute to a tax-sheltered annuity, you deposit some of your pre-tax income into an account for long-term savings. The income you deposit into a tax-sheltered annuity isn't taxed when you earn it, but is instead taxed when you withdraw the funds. The nature of this type of annuity makes it possible to reduce your current tax liability by reducing your taxable income.
Not everyone can take advantage of a tax-sheltered annuity.
Governed by IRS code 403(b), only certain types of employees qualify for a tax-sheltered annuity. If you're employed by a tax-exempt charitable organization, a public school, a self-employed minister or an employee of an Indian tribal government, you're probably eligible for a tax-sheltered annuity. Other types of annuities or investments may refer to themselves as tax-sheltered annuities, but unless you qualify under 403(b), you're not truly contributing to a tax-sheltered annuity.
A tax-sheltered annuity comes with limits.
If you're examining annuity options, a tax-sheltered annuity is a solid choice to have as a part of your retirement portfolio. Keep in mind, however, that a tax-sheltered annuity comes with a maximum annual contribution, and anything you contribute over that dollar amount is taxed based on your tax bracket. Look for ways to maximize your tax-sheltered annuity contributions, such as taking advantage of any applicable catch-up clause or looking for an employer-matched annuity.
A tax-sheltered annuity is a great retirement option.
Because taxes on a tax-sheltered annuity are deferred until you withdraw money from the plan, it's a great choice for retirement savings. Presumably, your income in retirement is somewhat to significantly lower than your income at the time of the contribution, so your annuity withdrawal is taxed at a much lower rate than you would be if you claimed that income in the year you earned it. This saves you money both when you contribute the funds and when you withdraw them, making a tax-sheltered annuity an ideal long-term savings option. Keep in mind that if you withdraw your funds before retirement, you may face penalties or fees.
Use a tax-sheltered annuity as part of an overall retirement plan.
A tax-sheltered annuity is great as a piece of an overall retirement plan, but it should only be one part of your plan. Like other annuity options, a tax-sheltered annuity is only as good as its guarantor. Based on the annual limit, it makes sense to contribute up to the annual maximum to a tax-sheltered annuity, but distribute the rest of your retirement funds in other types of investments. That way you're not caught without other resources if there should be a problem with your guarantor, and you can maximize your tax benefits with other tax-sheltered investments.
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