If you’re saving for retirement, it’s a good idea to understand the tax-deferred investment vehicles that are available to you. In these vehicles, the returns you make from your invested money are not reduced by income taxes annually; you only pay taxes when you withdraw the money in retirement (when you are usually in a lower tax bracket and will therefore pay less tax on the distributions.) These tax-deferred investment vehicles include:
Employer-sponsored retirement plans, such as defined benefit plans, which are usually referred to as pension plans and provide specific benefits in retirement; and defined contribution plans (such as 401(k) and 403(b) plans), which make a specific contribution to an account in your name and retirement benefits are based on the account’s investment performance.
Individual retirement accounts (IRAs) such as traditional IRAs (to which anyone can contribute) and SEP IRAs (for self-employed individuals and smaller employers). These are similar to employer-sponsored retirement plans except that you purchase them yourself. In Roth IRAs, you make after-tax contributions, and investment income accrues tax-free; under most circumstances, distributions are not taxed.
Annuities, which provide a stream of income for a certain period or for your lifetime. They are available as variable annuities, in which investment returns are based on investment experience, and fixed annuities, whereby you receive a guaranteed rate of return.
There are different eligibility rules for each investment vehicle, such as income limits, age requirements, and contribution limits.