Saving for retirement with specialized retirement plans is an excellent way to build wealth on a tax-free or tax-deferred basis. Considering that most people rely on their tax-deferred retirement accounts as income after they stop working, 
making a mistake can be extremely costly.
Here are some retirement saving tax tips that should help you keep more of that money for yourself:
If You Plan on Converting to a Roth IRA, Do It This Year
If you are planning to convert any of your pre-tax investments to a Roth IRA, this is a great year for it. Why? Because taxes will likely increase on most income tax brackets next year, making that rollover more costly.
Don’t Take Early Distributions
The IRS conducted a study in 2003 which revealed that nearly 5 million taxpayers took money out of retirement accounts before they were 59 ½ years old. The retirement account penalties for withdrawing money early were about $3.4 billion! In addition to paying income taxes on your distribution, you are also smacked with a 10% penalty when withdrawing before the eligible distribution age.
If you use retirement savings plan specifies a minimum age to withdraw money, do not withdraw it before you are the appropriate age. If you feel there is a possibility of having to withdraw money prior to retirement, keep more than one retirement savings; one that allows withdrawals anytime, and another which does not.
When Changing Jobs, Take a Rollover Instead of a Distribution
When you change jobs, it’s in your best interest to roll your funds directly to the new employer’s retirement plan or your own IRA plan. If you choose a distribution instead of a rollover, you’ll lose 20% because the of the 20% IRA Withholding tax law. This rule applies to a 401k or 403b plans and not to a SEP IRA. Sometimes, it is smart to roll a 401k to a SIMPLE or traditional IRA because you will not only avoid paying taxes on the distribution, but will also have unlimited investment choices (compared the the few options most 401(k) plans offer).
You Can Designate Your Children as Your Beneficiaries
Many people commonly put their spouses on their retirement accounts as their beneficiary. If you have an IRA, you can designate children and/or grandchildren as beneficiaries, which allows the money to be stretched out over the child’s project life span. The child can take IRA pay outs over their lifetime if they choose. This means the money earns decades more tax-deferred or tax-free growth than it would have if the surviving spouse was named the beneficiary. Realize that naming your children as beneficiaries requires the corresponding spouse needs to sign a waiver; otherwise he or she is automatically the beneficiary.
You should consult a professional for setting up an IRA trust for minor children to make sure you avoid any money traps.
In Most Cases Don’t Take a Lump Sum When You Retire
In most cases, when you’ve finally said goodbye to the world of employment, do not take a lump sum or you’ll have an insanely high tax bill and the money will no longer grow tax free. Instead, you may consider moving your retirement funds from an employer-sponsored plan into an IRA to allow you to maintain tax-deferred status while taking distributions (that are subject to only ordinary income taxes at 59 1/2). There is a loophole in Section 72(t) where you can take equitable distributions from an IRA before 59 1/2 (but after 55) and avoid the 10% early withdrawal penalty (this loophole has other provisions to be aware of). It is highly recommended that you consult with a financial planner or tax professional who specializes in retirement plan distributions as the Internal Revenue Service’s code is complex and making the right decision depends upon your financial needs and situation.
This is a guest post by TaxDebtHelp.com, a website that provides advice and guidance for taxpayers with tax debts and other major State and IRS tax problems.
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The IRA/Trust is more than just for minors. I just counseled an 80yr old woman. She knows her adult daughter can’t handle money and would blow through any inheritance. A trust will act as a conduit to only allow her to take 5% or the RMD, whichever is higher. Not for the DIYer, good to see a trust attorney for this. It has to be done right.
i agree with Joe- even it is difficult and you need the money- try to find another avenue to get the money from as taking money out early comes with a hefty penalty and can set you back a few years.
I haven’t been able to start my retirement funds yet because I am not a full-time employee. But I intend on contributing the maximum amount once I get out of college since I can probably only contribute the max during my early 20s. During my 30s, there will probably be other things to pay for like mortgage.
Yeah, I probably wouldn’t take a lump sum either. No early 10% withdrawal fee for me!
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CG – my 11 yr old will open her Roth by the end of August. Part time doesn’t mean you can’t open an IRA. Unless of course, you meant you have no money to spare. That’s different.
Joe, a bit off subject, but do you know if it’s necessary to include your children as beneficiaries on your retirement plans (401k, IRA, etc.)? I understand the money automatically goes to your spouse if one were to pass away, but what about the children? Seems like I heard (or read) you the benefit could end up in court even if you have a will or trust.
Jason @ One Money Design´s last blog ..How Much House Can You Afford Aside
As I understand, you cannot name your children as beneficiaries if you are married as your spouse will take precedence unless he or she signs a waiver. If you are single, then you can name your children as beneficiaries (if you want them to receive the money), otherwise, if you die, then your Estate becomes the beneficiary. There is one caveat here. If your children are minors, some financial retirement plans may have an issue transferring the funds to a minor and so the court will have to name a trustee which can delay things. Therefore, your best bet is to setup a trustee now, and then name the beneficiary as your children’s trust (again if you are married your spouse needs to sign waiver). It is recommended you speak to a tax attorney or certified financial planner before doing anything.
Jason,
I asked Ashley (my guest post contributor) if she can answer your question. I see she already did! Great question and thanks, as always, for reading.
Setting up a Trust would seem to be the critical activity that most neglect to do. It just gives so much flexibility in how your wishes are carried out while bypassing most of the probate.
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found your site on del.icio.us today and really liked it.. i bookmarked it and will be back to check it out some more later