Home Wealth  Money Deadlines Loom For Tax-Saving Accounts

Deadlines Loom For Tax-Saving Accounts

Posted: Oct. 26th, 2010  |  By Forbes

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This is the time of year to take a new look at the smörg?sbord of tax-favored accounts Congress has created for retirement, education and health care. For some of these accounts, the deadline is fast approaching to make additional 2010 contributions; for others, you must make decisions now about what you want to save in 2011.

A fourth-quarter reassessment is particularly crucial this year, says Timothy Wyman, a managing partner with the Center for Financial Planning in Southfield, Mich. That's because economic uncertainty has understandably led some workers to delay or reduce 2010 contributions to their retirement accounts.

For example, one client of Wyman's, a salesman, was so worried about his income last fall that he decided not to commit much of his 2010 paycheck to his company's 401(k) plan during last year's sign-up period. (Not much lost, he figured, since the company has suspended its employer match.) Now he's feeling more confident and is making a one-time $12,000 contribution to the plan.

That's right: While your employer probably required you to decide last year how much in 2010 employee contributions you wanted to make to a pretax 401(k) or a Roth 401(k), legally you have until the end of this year to make those contributions. So most employers--while they may not advertise the fact--will allow you to change your salary deferral election during the year. Note that some companies do limit the percentage of pay you can contribute each pay period. (Also, you can lose out on matching money if you don't spread your contributions over pay periods.) That means if you want to save more for 2010, you need to contact your human resources or payroll department as soon as possible.

In Pictures: 10 Tax-Saving Accounts To Act On Now

For 2010 you can contribute up to $16,500 (plus an additional $5,500 if you're 50 or older) to a traditional or Roth 401(k) accounts. That's a combined limit for your contributions to both types of accounts. In fact, if your employer offers the newer Roth option too, you may want to split your contributions between the two types of accounts. With a traditional 401(k), you put in pretax money and save on 2010 taxes, but all withdrawals in retirement are taxed as ordinary income. With a Roth 401(k) you contribute after-tax money and all withdrawals in retirement are tax-free.

Does your job security still feel shaky? Then you may not want to commit more money to a 401(k) now, since it's hard to get at those funds before retirement without paying a 10% early withdrawal penalty. Instead, increase your emergency funds in taxable accounts and open a Roth IRA. The ability to contribute to a Roth IRA phases out if your income is over $105,000 for a single, or $167,000 for a couple. You have until April 15, 2011 to make a contribution of $5,000 per person ($6,000 if you're 50 or older) to one of these. As with a Roth 401(k), you put after tax-dollars in a Roth IRA, and all distributions in retirement are tax-free. But the key to a Roth IRA is that you can take back your original contribution at any time without penalty.

Of course some dedicated, tax-allergic savers fanatically fund every special account they can find in the tax code. Eric Cramer, a financial consultant with Charles Schwab (nasdaq: SCHW - news - people ) in Atlanta, reports he has clients who fill their workplace 401(k) accounts to the max, fund IRAs, and then open up taxable accounts to continue to save. If they have kids, they might have 529 college savings plans, or Coverdell education savings accounts, or even plain old custodial accounts where $950 of annual income isn't taxed, thanks to the kiddies' standard deduction. (He advises folks to earmark these funds for a computer or a car in high school, so they are depleted before it's time to apply for college financial aid). The big savers might have pretax flexible savings accounts for daycare, as well as one or more special pretax accounts for medical and dental expenses.

But other families have neither the money nor the patience to fund each and every account. That's why this is a good time to review all your choices and see which might work best for your family. Cramer suggests couples look at their retirement savings options holistically. Say a wife works at a company that offers a 401(k) with a generous employer match, and the husband is self-employed with variable income. First, the wife should contribute enough money to her 401(k) to grab the match for the calendar year. (That match is free money, so don't pass it up.) Then the couple should fund Roth IRAs for each of them, since these are the most flexible form of retirement savings, and a good hedge against future higher tax rates.

Next, if they've got still more money to save, they should look at funding a retirement plan for the husband. True, the tax-favored retirement plan options for folks with self-employment income can be bewildering. But they're worth investigating, since they allow for large amounts to be put away on a tax-favored basis. There's the Simple IRA, the SEP IRA and the solo or "individual" 401(k), now offered by the many brokers and mutual fund companies, including the Vanguard Group, Fidelity Investments, T. Rowe Price (nasdaq: TROW - news - people ), TD Ameritrade (nasdaq: AMTD - news - people ) and Charles Schwab (nyse: SCHW - news - people ).

If you want to set up a solo 401(k) plan, you must act by year's end. A SEP IRA is ideal for procrastinators--it doesn't have to be set up and funded until the due date for your 2010 tax return, including extensions--Oct. 17, 2011. It's already too late to set up a Simple IRA for 2010, but you can still contribute if you have one in place. For more on how these plans compare, click here.

And while you're figuring out how much to save for retirement, don't brush off the other employer-sponsored tax-favored accounts for health care and dependent care. To maximize tax savings, you must carefully decide how much to stash pretax for 2011 in a flexible savings account for medical expenses and/or dependent care. You can put away up to $5,000 per couple for childcare expenses--that includes summer camp, by the way. For more on how to coordinate the child care tax credit and the dependent care account, click here.

For the medical FSA there's no dollar restriction on the amount you contribute for 2011, except for the limit your employer sets. But note that as of Jan. 1, you can no longer use your FSA dollars to buy over-the-counter drugs---unless you have a prescription or letter of medical necessity from a doctor. For more on big changes coming to your medical FSA, click here.

Think these accounts aren't worth the hassle? It's like getting your health care and child care at up to 40% off (35% federal, 5% state). But be careful: Any money you don't use in a year is forfeited.

In Pictures: 10 Tax-Saving Accounts To Act On Now

Read more from Ashlea Ebeling here.




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