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How to Beat the Tax Man and Retire Rich

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Nothing gets a group of successful Americans quite so worked up as a discussion of their tax burden. Whether your personal pet peeve is our nation's huge military commitment, its costly social safety net, or the ever-popular interest on our national debt, we can all agree that too many of our tax dollars go to fund things we don't like -- and those tax dollars represent a big bite taken out of our earnings.

But what if I told you there was a way to invest while escaping the long arms of the IRS, allowing your money to compound without a tax burden? And better yet, what if it was completely legal?

Oh, give me a break. Dude, it's an IRA article, right? It's April, you think your readers can't see this coming? You do something goofy like this every spring. Fools are a pretty smart crowd. Nobody here is going to be shocked to learn that you can invest via an IRA and defer or avoid taxes on the money you earn.

OK, I agree that the existence of IRAs probably isn't news to anybody savvy enough to be reading The Motley Fool. But how many have actually taken the time to set one up? And how many are contributing?

I have an IRA. I set it up when I rolled over my old 401(k) way back when, just like you told me to. It's doing pretty well.

Yeah, but when's the last time you contributed new money to it?

Eh, I don't bother with annual contributions. At this point the $5,000 I could be putting in every year looks kind of lame compared with the returns I'm getting on the money I already have.

You're going to make me pull out that old personal-finance writer cliche, aren't you? You know, the one where I go on about how contributing $5,000 a year to an account earning 10% adds up to an additional $991,964 after 30 years. That's just a cheap used car shy of a million bucks! You can't use an extra million bucks when you retire?

C'mon, eight grand isn't that cheap for a used car.

Listen to me here. I think a lot of people "know about" IRAs and pay lip service to them, and maybe even have one that they contributed to once or twice way back then, but I think the number of people who actually plan to contribute the $5,000 maximum (or anything at all) and then follow through on it year in and year out is a lot smaller than it should be. And that's too bad, because most of us can come up with some money to invest once a year and the big tax advantages of an IRA make it just about the best way to invest for the long haul.

You know what my problem is? First, I have to plan to have the money. Second, I have to figure out what to invest it in. I don't have time to be --

OK, now it's my turn to say, "Give me a break!"

As you pointed out a minute ago, this is The Motley Fool. You need investment ideas? We've got plenty. Here's Tim Beyers' look at why Dolby Laboratories (NYSE: DLB  ) is poised to outperform thanks to strong products and careful management. Rick Munarriz thinks Sirius XM Radio (Nasdaq: SIRI  ) could see big gains once it's able to raise its subscription rates later this year, and that Netflix (Nasdaq: NFLX  ) could be America's next great export. David Williamson thinks the market is overlooking General Motors (NYSE: GM  ) , although I think that one might require a little patience while the General gets its product act together.

There are lots of possibilities. Just pick a couple, spend a little time researching them, and make the trades. Or if that's really too much for you, just grab a fat-yielding ETF like Vanguard Dividend Appreciation (NYSE: VIG  ) -- or check out the iShares FTSE NAREIT Mortgage Plus Capped Index (NYSE: REM  ) , which pays over 9% thanks to its big stakes in mortgage REITs.

Really, it's not hard. If you haven't filed your taxes yet, you can still make a contribution for 2010 and take the deduction if you have a traditional IRA. If you have a Roth, you can just go ahead and do it.

If you don't have an IRA yet, or just want to learn more about the ins and outs of keeping more of your money away from the tax man (a worthy thing to do), check out the complete guide to retirement accounts in the new issue of the Fool's Rule Your Retirement newsletter. Retirement guru Robert Brokamp is my favorite go-to authority on this stuff, and he put together a great guide to making the most of your IRAs just in time for tax season.

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Fool contributor John Rosevear owns shares of General Motors, which is a Motley Fool Inside Value pick. Dolby Laboratories and Netflix are Motley Fool Stock Advisor recommendations. You can try any of our Foolish newsletter services free for 30 days, with no obligation. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Read/Post Comments (15) | Recommend This Article (16)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 07, 2011, at 5:42 PM, Remix20 wrote:

    The Roth IRA is Americas saving gift to its citizens. Far too many people just don't seem to get what tax-free growth can help them achieve for retirement. Save $5000 a year, diversify into good dividend paying stocks, and watch your balance grow like a beanstalk. Tax free growth is the best kind!!

  • Report this Comment On April 07, 2011, at 7:33 PM, muddlinthrough wrote:

    Okay, playing devil's advocate, here--the idea of IRA's nowadays seems to be a silly idea.

    Witness the foofoorah for 529's. A lot of them are insolvent. Why? Because they're mutual fund vehicles, managed by folks that get a 6% upfront fee and 1-2% management fees *per annum* that basically mean the fund has to do 15%, RELIABLY, to just hit a 10-year 'rule of 72' doubling.

    The Roth IRA? You really think that it's 'tax free?' With the current bunch of crooks that can't be bothered to fix things, while there's a will, that the FUTURE bunch of crooks, in an even bigger hole, won't be going after the voiceless middle class to 'pay their share?'

    So...yes, 10% a year, will give you a million bucks. After 30 years. IF your money manager doesn't pull a Bernie and for your guaranteed 10%, rob Peter to pay Paul.

    I'm not fooling--the idea of putting money away for a rainy day in retirement isn't a bad one.

    The idea that the 'average' person (50% win, 50% lose...that median guy in theory breaks exactly even) will see 10%, or even keep their principle? Doesn't work.

    The most HUMOROUS line of the article: "You need investment ideas?" followed by 'could.'

    Go to Vegas. Bet your entire stash on 'black.' Wait for the spin. Collect or give cash. Leave. All else in the supposed 'smart' investing is just rationalization on which color you're choosing on that roll.

  • Report this Comment On April 07, 2011, at 8:39 PM, MartinSamuelson wrote:


    You clearly haven't learned anything from the Fool.

  • Report this Comment On April 07, 2011, at 9:58 PM, TMFMarlowe wrote:

    @muddlinthrough: If there's anything you take away from the Fool, let it be this: It's always best to be your own money manager. Do it right, and 10% is not at all unreasonable. But you have to do it.

    John Rosevear

  • Report this Comment On April 07, 2011, at 11:43 PM, cmbourne wrote:

    muddlnthrough is right about one thing, You can't trust the government to kep their promise re. not taxing Roth withdrawals.

  • Report this Comment On April 08, 2011, at 1:23 AM, dgmennie wrote:

    IRAs of any stripe are NOT a way to "retire rich" because any "advantages" they offer the participant are more than offset by (essentially) requiring this same person to accurately predict his/her financial future -- for the next 20 to 40 years. Virtually NOBODY but the taxman comes out ahead in such a deal.

    Typically, here's what happens. The diligent employee stuffs cash into an IRA, possibly with matching funds. This goes on for 5, 10, 15 years and then disaster strikes: Layoff, divorce, medical emergency, etc. and suddenly our IRA investor NEEDS that money NOW. Very quickly the saver finds that between early withdrawl penalties, bad management of funds (he/she is always forced to pay for these), and other restrictions (perhaps imposed by an employer) those "golden year" retirement dreams have evaporated in a heartbeat.

    Much better that employees be able to put their savings into something which DOES NOT contain zinger penalties that rob them blind for not predicting the future with unerring accuracy. In fact, everyone knows the future will eventually make unexpected financial demands that cannot be met should the bulk of their savings be ensnared in any kind of IRA. Yet they keep buying into these fiscal traps.


  • Report this Comment On April 08, 2011, at 5:34 AM, MartinSamuelson wrote:


    I think you lack basic knowledge about personal finance and individual retirement accounts.

    Personal finance experts recommend saving for an emergency fund before saving towards retirement. A healthy emergency fund and decent insurance should leave you with no worries about investing in IRAs.

    You implied that IRAs are controlled by your employer and/or a manager. Wrong. INDIVIDUAL retirement accounts are controlled and managed by you and you are allowed to purchase any stock or fund you want.

  • Report this Comment On April 08, 2011, at 8:48 AM, FlixFool wrote:

    When you say "IRA" do you mean both IRAs and other tax-free vehicles like 401(k)s ?

    I've always contributed the max allowable dollar amount per year to my 401(k), but haven't been so diligent with my IRAs since, well, after such hefty 401(k) contributions, there's barely enough money left just to survive on.

    That being said, I have an emergency fund that is almost equiv. to a single year's after-tax take home pay. Should I consider using some of that each to contribute to my IRA each year, then build the emergency fund back up ?

    And, all that being said, first thing I do any time I switch jobs, is to roll all the 401(k) money over into my IRA where I then use those funds to fuel my SA purchases :)


  • Report this Comment On April 08, 2011, at 8:48 AM, JimmyAdamson wrote:

    Unfortunately for me, my "earned" income is excluded and tax exempt as I live and work in Japan, meaning that I can't contribute to my IRA. Oh, I just wished there was a way I would contribute.

    One troubled Fool

  • Report this Comment On April 08, 2011, at 9:07 AM, robyrob wrote:

    Roth IRA is the only way to go. To the 401k contributor above... only invest up to the company match. You probably have crappy investment options in there anyway. If you can contribute 5000 a year to a Roth, perfect. If not, pick an amount you can contribute each paycheck... 30 or 40 bucks even. Try to dump some of your tax return into it. Sure it's always possible the government will change Roth tax rules, but for now this is the best thing we've got.

  • Report this Comment On April 08, 2011, at 11:09 AM, FlixFool wrote:


    Only contributing to "the company match" would mean, in this particular case, I'd contribute nothing. Which seems foolish.

    And why only contribute the match, regardless of what it is? I can take a federally mandated max of $16,500 off my income, thereby reducing my tax burden simply by contributing the max allowed to a 401(k). That's 3.3x more than I can contribute to my Roth or regular IRA.

    Regardless of the quality of my investment choices in the plan, it seems far more prudent to max out a 401(k) than it does to forego that option in favor of a vehicle where one is a) limited to a lower annual maximum contribution level, and b) get absolutely no tax deduction benefit for doing so.

    Remember, being *eligible* for an employer-sponsored retirement savings plan, regardless of whether you participate, exempts you from taking a tax deduction for your IRA contributions. So, giving preferential treatment to an IRA over a 401(k) which you are eligible for means you're a) paying more taxes currently than you could be, and b) artificially limiting yourself to the maximum contribution you could be making.

    My question wasn't "should I contribute to an IRA over a 401(k)?" it was more "should I be looking for a means to fund the IRA above and beyond the 401(k)?".

    Not funding a 401(k) that you are eligible for drastically limits your retirement savings ability, in my opinion.

  • Report this Comment On April 08, 2011, at 5:13 PM, Financenerd1 wrote:

    I'm doing 12% annualized for the last three years and I'm self taught and still in college and not majoring in anything investment related. If you teach your self its way better than depending on someone else.

  • Report this Comment On April 08, 2011, at 5:17 PM, ozzfan1317 wrote:

    Btw The above comment is me So yeah you caught me I'm a Motley Fool

  • Report this Comment On April 14, 2011, at 6:22 PM, tsmfool wrote:

    I work for a company that matches 401k contributions up to 6% dollar for dollar. For the past several years I have saved the maximum of $16,500. When possible I have also contributed additional dollars to a Roth IRA. Starting 2011, my company offers a Roth 401k. The key here is understanding the value of each. I am trying to strike a balance between the two. Traditional 401k will reduce your taxable income.where the Roth 401k will not. Did anyone else take advantage of the opportunity to convert a IRA to a Roth IRA in 2010. This gave you the ability to pay the taxes over two years. Also, do you know that you can contribute up to $22,500 if you are 50 or older?

    You may not be able to control what the goverment may do regarding taxation, but you can control how much you save and where to invest it. An emergency fund is a must!!!

  • Report this Comment On April 22, 2011, at 2:38 AM, dgmennie wrote:

    To "Sambar2pi" and anyone else out there who thinks IRAs are the path to financial independence, please consider the following story I just found online about the CURRENT unemployment situation. Sure, if you are well-heeled and have cash to fall back on IN ADDITION to an IRA, great. But most of the middle class lives paycheck-to-paycheck, thus the notion of having significant savings (in addition to IRA participation) is a pipe dream. Read on for a reality check....

    "I cannot begin to tell you how many jobs I have applied for over the past 3 years. My 30 years of job experience were always in the construction related industry - jobs that are now almost non-existent in California. One person told me that she had received over 600 applications for a $12/hr receptionist job that she posted online. She also told me that she was not even considering hiring anyone with management experience. My unemployment ran out several months ago, I have not had any medical coverage for 2-1/2 years, I am living off the meager retirement I had accumulated - and paying taxes and penalties for early withdrawal - and find myself incredibly grateful to have that. So much for hard work and the American Dream. I am so angry and feel so betrayed by every politician I ever voted for, donated money to and/or supported."

    Bottom line: such people (through no fault of their own) are NEVER going to "beat the tax man and retire rich." Instead, their IRA money will be gobbled up by penalties for early withdrawl long before it can ever be used for retirement.

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