What Retirement Accounts Are Tax Deductible?

Saving for retirement is essential, and tax advantages can make a significant difference in long-term savings. Some retirement accounts offer tax deductions on contributions, reducing taxable income and potentially lowering tax bills. These benefits help maximize savings while providing an immediate incentive to invest for the future.

Understanding which accounts qualify for tax deductions is key to making informed decisions about retirement planning.

Traditional IRA

A Traditional IRA allows individuals to contribute pre-tax income, reducing taxable earnings for the year. This deduction provides immediate tax savings, making it an appealing option for lowering tax liability while building retirement funds. The deductible amount depends on income level and participation in an employer-sponsored retirement plan.

For 2024, the maximum contribution limit is $7,000, with a $1,000 catch-up contribution for those 50 and older. Deductibility is determined by modified adjusted gross income (MAGI) and filing status. For single filers covered by a workplace retirement plan, deductions phase out between $77,000 and $87,000. Married couples filing jointly see phase-outs from $123,000 to $143,000 if the contributing spouse is covered. If only one spouse is covered, the phase-out range extends from $230,000 to $240,000.

Withdrawals in retirement are taxed as ordinary income, and early withdrawals before age 59½ generally incur a 10% penalty. Exceptions include first-time home purchases (up to $10,000) and qualified education expenses. Required minimum distributions (RMDs) begin at age 73.

401(k) Plans

Employer-sponsored 401(k) plans allow workers to contribute pre-tax earnings, lowering taxable income. Investments grow tax-deferred until withdrawals begin in retirement. Many employers offer matching contributions, increasing an employee’s retirement savings.

For 2024, employees can contribute up to $23,000, with an additional $7,500 for those 50 and older. Employers may contribute as well, bringing the total contribution limit to $69,000, or $76,500 for those eligible for catch-up contributions.

A key advantage of 401(k) plans is their higher contribution limits compared to IRAs. Some plans also offer Roth 401(k) options, where contributions are made with after-tax dollars, but withdrawals in retirement are tax-free.

SEP IRA

Designed for self-employed individuals and small business owners, a SEP IRA allows employers to contribute to retirement accounts for themselves and their employees. Contributions are made exclusively by the employer, who can set aside a percentage of each employee’s compensation, including their own if self-employed.

For 2024, contributions can reach up to 25% of an employee’s compensation, capped at $69,000. This flexibility enables business owners to adjust contributions based on profitability. Unlike other employer-sponsored plans, SEP IRAs do not require consistent annual contributions.

Contributions are tax-deductible as a business expense, reducing taxable income. This feature is particularly beneficial for high-earning self-employed individuals looking to optimize tax efficiency.

SIMPLE IRA

For small businesses with 100 or fewer employees, a SIMPLE IRA provides a cost-efficient retirement savings option. Employers must contribute either a dollar-for-dollar match of up to 3% of an employee’s compensation or a non-elective contribution of 2% for every eligible worker.

The employee contribution limit for 2024 is $16,000, with an additional $3,500 catch-up allowance for those 50 and older. While lower than some alternatives, this limit still provides a meaningful opportunity to save in a tax-advantaged manner.

A notable feature of SIMPLE IRAs is immediate vesting, meaning all contributions—both employee and employer—belong to the worker right away. This differs from many retirement plans that impose vesting schedules, requiring employees to stay with the company for a set period before gaining full ownership of employer contributions.

Solo 401(k)

For self-employed individuals and business owners with no employees other than a spouse, a Solo 401(k) offers high contribution limits and tax advantages. Participants can contribute both as an employee and an employer, increasing potential savings. Contributions reduce taxable income, and investments grow tax-deferred until withdrawals begin.

For 2024, the total contribution limit is $69,000, or $76,500 for those 50 and older. This includes employee deferrals of up to $23,000 (plus catch-up contributions) and employer contributions of up to 25% of net earnings for sole proprietors or 20% of net self-employment income after deducting self-employment taxes.

Unlike SEP IRAs, Solo 401(k)s allow for Roth contributions, enabling tax-free withdrawals in retirement. These plans also permit loans of up to $50,000 or 50% of the account balance, whichever is lower, providing flexibility in case of financial emergencies.