DEFINITION of Deferred Account
A deferred account postpones tax liabilities until a future date. A deferred account usually refers to accounts specifically designed for retirement, such as an Individual Retirement Account (IRA). Deferred accounts have become increasingly popular as fewer companies offer pensions, and the burden of saving for retirement has shifted to individuals.
Roth IRA Vs. Traditional IRA
BREAKING DOWN Deferred Account
Deferred accounts facilitate savings for retirement by enabling investments to grow tax-free until their withdrawal. This tax-free compounding often allows investments in deferred accounts to grow faster than in taxable accounts. Examples of tax-deferred accounts include 401(k) plans. These are employer-sponsored plans into which eligible employees may make salary deferral contributions. Employers that offer 401(k) plans have the option to make matching or non-elective contributions on behalf of eligible employees and may even add a profit-sharing feature.
Another option is a Roth IRA. While contributions to a traditional IRA are generally made with pretax dollars, Roth IRAs are funded with after-tax dollars. Roth IRA contributions are not tax-deductible (although individuals may be eligible for a 10 to 50% tax credit, depending on their level of income). The advantage of a Roth IRA is that when you start withdrawing funds, qualified distributions (see below) are tax-free.
Criteria that must be met in order for a distribution to be qualified include:
- The distribution must occur at least five years after the owner established and funded the account.
- At least one of the following:
- The Roth IRA holder must be at least age 59.5 when the distribution occurs.
- Distributions (up to $10,000) are for the purchase or rebuilding of a first home for an account holder or qualified family member.
- The distribution occurs after the Roth IRA holder becomes disabled.
- The assets are distributed to the beneficiary of the Roth IRA holder after his/her death.
If the distribution is not qualified, the account holder must pay both taxes and a penalty on the distributed funds.
Recent News About Deferred Accounts
In May 2018, the Wall Street Journal’s Marketwatch reported that Millennial women were increasing their savings by contributing to tax-deferred IRAs. This figure has grown 23% in the past year. Overall, the number of Millennials that participate in tax-deferred plans has jumped 75% in the past decade. Although the trend of retirement savings is on the rise, only 37% of employed Millennials have retirement accounts. Only 49% of all Americans are actively contributing to an employer-sponsored 401(k) account.