What Are the Different Types of Tax-Free Accounts?

The term “tax-free account” refers to savings and investment vehicles where your money can grow and be withdrawn without being subject to federal income tax, provided you follow rules specific to each account. These accounts are funded with post-tax dollars, meaning you pay taxes on the money before you contribute. This is different from “tax-deferred” accounts, where contributions may be tax-deductible, but you pay income taxes on withdrawals in retirement.

These specialized accounts are designed to encourage saving for retirement, healthcare, and education. By offering tax incentives, they help individuals and families prepare for major life expenses.

Tax-Free Accounts for Retirement

Certain accounts allow for contributions to grow and be withdrawn completely free of federal income tax. The primary benefit materializes in retirement, when qualified distributions, which include both your original contributions and all investment earnings, are not taxed.

Roth IRA

A Roth Individual Retirement Arrangement (IRA) is a personal retirement account that offers tax-free growth and withdrawals in retirement. Your ability to contribute is determined by your modified adjusted gross income (MAGI). For 2025, a single filer must have a MAGI under $150,000 to make a full contribution, with partial contributions allowed for a MAGI between $150,000 and $165,000. For those married filing jointly, the full contribution is available for a MAGI under $236,000, with a phase-out range between $236,000 and $246,000.

The maximum amount you can contribute to a Roth IRA for 2025 is $7,000, or $8,000 if you are age 50 or older, due to a $1,000 catch-up contribution. This limit applies to the total contributions made to all of your IRAs, both Roth and traditional, in a single year. Contributions for a given tax year can be made up until the federal tax filing deadline of the following year.

For a withdrawal to be a “qualified distribution” and thus completely tax-free, two conditions must be met. First, you must be at least 59½ years old. Second, you must satisfy the 5-year holding period, which requires that five years have passed since the beginning of the tax year for which you made your first contribution to any Roth IRA. You can withdraw your direct contributions tax-free and penalty-free at any time, but the earnings portion of a withdrawal is subject to taxes and a 10% penalty if these conditions are not met.

Roth 401(k)

A Roth 401(k) is an employer-sponsored retirement plan option that combines features of a traditional 401(k) with the tax structure of a Roth IRA. Unlike a Roth IRA, there are no income limitations to participate in a Roth 401(k), making it an accessible option for high-income earners. Contributions are made with after-tax dollars through payroll deductions, and qualified withdrawals in retirement are tax-free.

For 2025, you can contribute up to $23,500 to a Roth 401(k). This limit is shared with traditional 401(k) contributions, meaning your total employee contributions to both account types cannot exceed this amount. Individuals age 50 and over can make an additional catch-up contribution of $7,500. A special provision for 2025 allows those aged 60 to 63 to make a higher catch-up contribution of $11,250, if the plan allows.

Many employers offer a matching contribution for 401(k) plans. Any employer matching funds are deposited into a pre-tax account, meaning you will owe income tax on those matching funds and their earnings upon withdrawal.

Tax-Free Accounts for Healthcare

A specific type of account is available to help individuals with a certain type of health insurance plan save for medical costs. This account allows for tax-deductible contributions, tax-free growth of the funds, and tax-free withdrawals for eligible healthcare expenses.

Health Savings Account (HSA)

The Health Savings Account (HSA) is distinguished by its triple-tax advantage: contributions are tax-deductible, the account balance grows tax-free, and withdrawals for qualified medical expenses are also tax-free. The funds in an HSA roll over from year to year, and the account is portable, meaning you own it and can take it with you if you change jobs or health insurance plans.

To be eligible to contribute to an HSA, you must be enrolled in a High-Deductible Health Plan (HDHP). For 2025, the IRS defines an HDHP as a plan with a minimum annual deductible of $1,650 for self-only coverage or $3,300 for family coverage. The plan must also have a maximum out-of-pocket spending limit of no more than $8,300 for an individual and $16,600 for a family.

For 2025, the annual contribution limit for an HSA is $4,300 for individuals with self-only coverage and $8,550 for those with family coverage. These limits include any amounts contributed by an employer. Individuals age 55 and older are permitted to make an additional catch-up contribution of $1,000 per year.

Funds from an HSA can be withdrawn tax-free to pay for a broad range of qualified medical expenses. These expenses include deductibles, copayments, dental and vision care, and prescription drugs. If you use HSA funds for non-qualified expenses before age 65, the withdrawal is subject to both income tax and a 20% penalty. After age 65, withdrawals for non-qualified expenses are taxed as ordinary income but are no longer subject to the penalty.

Tax-Free Accounts for Education

Specialized savings accounts are available to help families pay for educational costs. These plans allow contributions to grow free from federal taxes, and withdrawals are also tax-free as long as they are used for approved educational purposes.

529 Plans

A 529 plan is a tax-advantaged savings plan sponsored by states or educational institutions to encourage saving for future education costs. While contributions are made with after-tax dollars, the investments grow tax-deferred, and withdrawals are entirely tax-free at the federal level when used for qualified education expenses. Many states also offer a state income tax deduction or credit for contributions.

Qualified education expenses include tuition and fees, books, supplies, and equipment required for enrollment at any eligible college, university, or vocational school. Room and board costs also qualify if the student is enrolled at least half-time. Up to $10,000 per year can be withdrawn tax-free to pay for tuition at K-12 public, private, or religious schools.

Coverdell ESA

A Coverdell Education Savings Account (ESA) allows for tax-free growth and tax-free withdrawals for qualified education expenses, which include costs for K-12 as well as higher education. Contributions are made with after-tax dollars and are not federally deductible.

The Coverdell ESA has more restrictive rules than a 529 plan. The total annual contribution limit for a single beneficiary is $2,000, regardless of how many people contribute. The ability to contribute is also subject to income limitations. For 2025, the ability to contribute phases out for single filers with a modified adjusted gross income between $95,000 and $110,000, and for joint filers with a MAGI between $190,000 and $220,000.