May 19 mgmt127a

May 19 mgmt127a - May 19, 2008 MGMT 127A Various patterns...

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May 19, 2008 MGMT 127A Various patterns for retirement savings. 1. Employer puts money into account for employee Example Employer puts in $2,000 for retirement account for you. You don’t pay taxes on that $2,000 that grows. Over time, as it compounds, it may grow to $20,000. It grows tax free, and at some point, you will be able to take it out. How much of it is income? You weren’t taxed on the $2,000 when your employer put it in, so you should be taxed on it. It also grew by $18,000, which was never taxed. So it makes sense that all $20,000 will be taxed. All $20,000 is considered income. This is consistent with employer pension plan or 401(k) Difference between pension plans and 401(k) Pension plans are defined benefit plans: Guaranteed amount that comes out 401(k) plans are defined contribution plans: Guaranteed amount goes in Example for pension plan: You are guaranteed 30% of your final year’s paycheck for the rest of your life Example for 401(k): You are guaranteed an amount by your
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employer, how much money will be put in. Plans nowadays are more defined contribution rather than defined benefit. If it is a defined benefit plan, fees incurred are the responsibility of the employer. However, if it is a defined contribution plan, you are responsible for the fees because employer is only responsible for making monthly contribution. What if you put money into an account yourself, and that money is deductible by you? You put $2 into an account, and wrote it off. Later on, the $2 grew to $20. How much of the $20 is considered income? The $18 that has appreciated is income. How about the $2 that you put in of your own money? When I get it back, should it be considered income? Yes, because when you write something off properly, and it is subsequently returned to you, there is income. All $20 is income. Pattern 1 If the amount you put in the box was not taxed when you put it in, or you wrote it off, every penny you take out is taxable. This scenario includes one of the most common retirement plans; The Individual Retirement Account or IRA. If you put money in an IRA, it enters the box tax free, or you write it off, and it grows tax-free. However, when you take it out, the whole amount will be taxable. When you take the money out, you will probably be in a lower tax bracket than the one you were in when you were working. You take the
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tax rates as you find them. You may have written it off at 30% on the dollar, but you may have to pay for it at 10% on the dollar. You come out ahead because you put in the money tax free, it grew tax free, and you don’t have to pay that much in tax for it. Retirement accounts have lots of advantages:
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May 19 mgmt127a - May 19, 2008 MGMT 127A Various patterns...

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