| You grow your savings so to use them later. Outside | | | | earnings make 'dividend- paying' equities an |
| of contributing they grow according to how you invest | | | | 'income-based' investment like debt-based investments. |
| them. Government's taxation plays an important part in | | | | Dividends are taxed annually. Generally they're taxes |
| how you choose what to invest in and how to hold | | | | like interest. But some are taxed at low tax rates |
| that investment. | | | | depending on what income tax bracket you're in. |
| This article overviews how your savings or | | | | I'll call investments you make in equity-based and |
| investments are taxed and how that influences what | | | | income-based subject to the taxation I've outlined |
| you choose to invest in. | | | | above 'normal taxable investments'. |
| Taxation affects growing your savings three ways. It: | | | | The government has set up and regulates |
| 1. Affects how much you're able to contribute to your | | | | retirement-savings plans as an incentive for workers |
| savings from your working income | | | | to save for retirement. Examples are 401(k) and IRA |
| 2. Determines how much of your investment earnings | | | | savings plans. The incentive is tax-based and |
| will be taxed annually, and | | | | prescribes a completely different taxation method for |
| 3. Takes a share of the your investment gains when | | | | whatever investment type you use within these plans. |
| you sell them | | | | The taxation procedures for these |
| Because of this omnipresence of taxes at every | | | | government-regulated plans are: |
| savings or investment interaction, you must understand | | | | * All contributions to these plans are deductible from |
| how taxes work so you can minimize their drain on | | | | working income. This eliminates the income tax that |
| your savings. So, here's how to 'view' your savings | | | | would be due on what you contributed to the plan that |
| and investment in relation to how they're affected by | | | | year. |
| taxation. | | | | * All earnings or gains from what you invested in within |
| First, let's categorize investment types according to | | | | the plan are tax-deferred until you withdraw your plan |
| how they 'hopefully' increase. | | | | savings at retirement. |
| There are two fundamental types of investments. | | | | * All withdrawals will be subject to your income tax |
| They are: | | | | rates. Withdrawal before you turn 591/2 will include |
| * Debt-based investments, and | | | | penalties in addition to the income tax. |
| * Equity-based investments | | | | So, you should view all your savings as partitioned |
| Debt-based investments 'borrow' money from you and | | | | under the two taxing systems for savings: |
| pay you 'interest' at least annually for the use of your | | | | * Normal taxable investments |
| money. At the end of the borrowing term - if there is a | | | | * Regulated-savings plans |
| term at all- all your money is returned to you. | | | | These tax attributes determine your investment |
| Examples are your bank savings accounts, CDs, | | | | options as follows: |
| bonds, and the like. These investments kick out an | | | | Normal taxable investments: |
| 'annual' income for you to use or reinvest as you wish. | | | | Income-based investments are generally highly taxed - |
| They're also 'income-based' investment for those | | | | interest earnings at your highest income tax bracket |
| seeking some relatively assured annual income from | | | | as for nonqualified dividends. Qualified dividend earnings |
| their investments. | | | | may have lower 0% to 15% tax rates though. So, |
| Interest earnings are taxed annually; they're added to | | | | choose generally assured earnings only if you need |
| your income to be taxed as your highest income tax | | | | the yearly earnings to live on and for an emergency |
| rate. Only earnings are taxed - not what you loaned to | | | | fund. |
| get the earnings. | | | | Equity-based investments have their capital gains |
| Equity-based investments require you to 'buy so as to | | | | taxed at low rates (5% or 15%) if held for more than 1 |
| own' an investment - perhaps a share in a company | | | | year - otherwise at income tax rates. These are |
| (like stock). Your share or ownership value - called | | | | clearly tax-advantaged investments to use to grow |
| capital - hopefully will increase in time so when you sell | | | | your savings over the long term. |
| your share you'll receive back more than you paid; but | | | | Regulated-savings plans: |
| there's no guarantee. | | | | These help you put more into your savings every year |
| The gain of what you receive over what you paid | | | | - but contributions are limited. Always contribute when |
| (called your basis in capital) is called your capital gain. | | | | your company matches your contributions. Their |
| Most equity-based investors seek capital growth. | | | | tax-deferred character helps yearly compounding too. |
| Capital gains are taxed only when you sell your | | | | Choose high earning income-based investments for |
| equity-based investments. These are taxed at very | | | | their assurance. |
| low capital gains tax rates if you hold your investment | | | | The best long term growth approach is in equity-based |
| for more than 1 year. Your capital basis is never taxed. | | | | capital growth items - stocks and residential property - |
| Some equity-based investments promise a yearly | | | | held as normal taxable investments. |
| dividend (earnings) too. These relatively assured | | | | |