So You've Maxed Out Your 401(k) -- Now What?
If you're a high earner who's been diligently building your retirement nest egg, then you may have exhausted the best savings tools at your disposal -- namely, your 401(k), which is where millions of Americans stash the majority of their retirement savings. Tax-advantaged retirement strategies are a little harder to come by when you have a big salary, but fear not -- you can still shield significant sums of savings from taxes.
Here a three money-savvy strategies that can round out your portfolio with some tax diversification.
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Fund an HSA
A health savings account, or HSA, is a tax-sheltered account that is designed to help individuals save for current and future healthcare costs. If used correctly, money in an HSA can avoid taxation forever. You can fund an HSA with pre-tax dollars that can grow tax-deferred. Any distributions used for qualified healthcare expenses remain untaxed. If you are under age 65 and withdraw funds for non-medical expenses, you will owe income taxes and get hit with a 20% penalty. But after age 65, funds withdrawn for non-medical purposes will be subject to income taxes only.
There are no income limits on who can have an HSA, but in order to contribute to one, you must have a high-deductible health plan (HDHP). For 2017, your annual health insurance deductible must be at least $1,300 for single coverage (with an out-of-pocket maximum of $6,550) or $2,600 for family coverage (with an out-of-pocket maximum of $13,100). In addition, you cannot contribute if you're covered by another type of health insurance plan, if you're on Medicare, or if you're claimed as a dependent on someone's tax return.
Another key feature of the HSA is that it moves with you even after you leave your job, and any money you contribute to the account can be invested and left to grow year after year. For 2017, you can contribute up to $3,400 to an HSA if you have a high-deductible individual health insurance plan, or up to $6,750 if you have a family plan. And individuals aged 55 or older can contribute an extra $1,000 per year. If you're in a position to cover the increased medical expenses that come with having a high-deductible health insurance plan, you can save in an HSA and treat it as another retirement account.
Make a "backdoor" Roth IRA contribution
A Roth IRA is a tax-sheltered retirement account that you fund with after-tax, nondeductible contributions. For 2017, if you are under age 50, you can contribute up to $5,500, and if you are aged 50 or older, you can contribute up to $6,500. Within a Roth IRA, your money can grow untaxed for decades. And, in general, as long as you have the account for at least five years, you can begin taking tax-free qualified distributions at age 59 1/2. This can be a major source of tax-free income in retirement, and there are no minimum distributions required (in fact, you can leave the money alone to grow for your entire lifetime), which makes the Roth IRA highly flexible.
But chances are that if you've maxed out your 401(k), you may earn too much to contribute directly to a Roth IRA. For 2017, if you are single and make $133,000 or more, or if you are married (and filing taxes jointly) and make $196,000 or more, then you are prohibited from contributing directly to a Roth IRA.
The good news for high-income earners who would like to diversify the tax treatment of their retirement savings is that there is still a way for you to fund a Roth IRA due to a loophole in the law. You can go ahead and make a contribution to a traditional IRA (as anyone with earned income can contribute to a traditional IRA), then convert those funds to a Roth IRA. Keep in mind that if you deduct any traditional IRA contributions (assuming you meet the IRS requirements to do so), you will have to pay income tax on any deductible funds you convert to a Roth.
Save in a taxable brokerage account
If you've maxed out every tax-advantaged retirement account available to you, and you want to save more on top of that, then your best option for long-term savings is likely an ordinary taxable brokerage account.
In a taxable brokerage account, you cannot defer taxation on your earnings, and your dividends are taxable as well. However, if you're a buy-and-hold investor (which you should be), then you will have the benefit of paying the lower long-term capital-gains tax rate on any earnings, making it perhaps a smarter choice.
As you save and accumulate retirement assets, it's smart to use all the tax-advantaged savings vehicles that are available to you. Then, you may need to think a bit outside the box. An HSA, a Roth IRA, and a brokerage account are all good options for someone who has exhausted all traditional savings methods and is still looking for other ways to diversify their long-term retirement portfolio.
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