The day to day expenditures of running a family successfully coupled with taxes, mortgage and insurance eats into your disposable income. At the end of the year, your expenditures may end up exceeding your income and you will be stranded with a sizable debt load and meager savings. The near future also demands that you have enough funds accumulated over the period of your employment to guarantee your children's higher education and a comfortable retired life. It is thus necessary to plan your investments to cover college education for your kinds as well as your retirement plans.
The average cost of tuition in the United States runs somewhere between $11,000 and $30,000 yearly for domestic students. Sending your child to law school or business school would mean that you need to save up at least $100,000 plus another $50,000 to cover tuition and miscellaneous expenses. Student loans are hard to pay back and come with very high interest rates. Therefore, its better to invest in one of the many federal plans to secure your child's future.
- Uniform Transfer to Minors Act/Uniform Gifts to Minor Acts (UTMA/UGMA) - Under this mechanism, an account can be set up in your child's name where you can transfer unearned income like capital gains on investments. The amount transferred into the account will be taxed at your child's rate which will, of course, lower than yours. The benefit you derive out of setting up such an account is gaining lower tax liability. The only downside of this investment is that it would be classified as your child's asset in case he applies for financial aid.
- Coverdell Education Savings Account (Coverdell ESA) - This particular plan and Qualified Tuition Program (generally termed as the 529 plan) lets you set aside funds for your child's education. You will additionally receive a tax deduction of up to $2,000 every year subject to income restrictions and contribution caps. Coverdell ESAs may be classified as an assets belonging to the child or the parent depending on how the account is classified when it is opened.
- Qualified Tuition Program (529 Plan) - The Pension Protection Act of 2006 rendered the advantages of this account permanent. These plans are exempt from gift taxes but has no tax deduction benefit attached to them. The annual contribution limits are set much higher and there are no income restrictions. Tax free dollars can be draw from the account to pay for qualified educational expenses. These accounts can belong to parents or their children or their grandparents but the implications of applying for financial aid will vary depending on ownership.
Retirement is inevitable. There is only so long that you can or would want to stay keep working. Therefore, it is necessary for you to save a significant amount of funds so that you can live out your retired life comfortably. There are a few well designed federal plans which will enable you to accumulate enough funds to let you spend your retirement years just the way you had planned.
- 401(k) Plans - It is one of the most popular retirement savings scheme around. Usually, a 401(k) plan will be offered to you by your employer. You can then make salary deferral contributions on a pre/post tax basis. If you are eligible, your employer may also make a contribution to the 401(k) fund equal to your contribution. There are caps in place to limit the amount of contribution you can make towards the fund. Withdrawals from the fund are unrestricted after you retire but there may be a monetary penalty in case you withdraw funds while you are still employed.
- 419 (e) Plans (Welfare Benefit Plans) - This particular plan is used as a funding device for insurance benefits which you can reap after retirement. In this case the employer determines a group of insurance that the employee would need. The employer then makes contributions to the fund on behalf of the employee, just as it would happen in case of a 401(k) plan. The benefits of the account are available post retirement. The plan may offer life, health, dental, supplemental disability and Medicare coverage. Moreover, the funds invested in these plans can't be touched by creditors, even if they have been awarded a judgment against you.
- Roth IRA - It is a special class of retirement plan which allows you to contribute after-tax dollars to a tax exempted retirement account. The funds within this account can be used to purchase investment instruments like stocks, bonds, certificates of deposit, real estate, etc. As long as the assets and profits stay locked in your Roth IRA, they cannot be taxed. Withdrawals from your Roth IRA become tax free after you are 59 years and 6 months of age. As of this year, the total contribution towards a Roth IRA is capped at $5,000 for investors who are 49 years of age or younger and $6,000 for investors who are 50 years of age or older.
Planning you finances to meet future needs is an essential part of leading a secure and happy life. The federal programs designed and perfected over the years are meant to grant individuals the freedom to invest and save with a great degree of flexibility and security.