Tax Deferral
What Is Tax Deferral?
Tax deferral is a strategy that delays paying taxes on income or investment gains until a future date. Instead of paying taxes immediately, the taxpayer postpones the tax obligation until funds are withdrawn or realized.
Tax deferral is commonly used in retirement accounts and certain investment structures.
Why It Matters
Tax deferral allows investments to grow without immediate tax payments, which can potentially increase long-term investment returns.
It is often used as part of retirement and tax planning strategies.
How Tax Deferral Works
Tax deferral typically occurs in accounts where taxes are postponed until withdrawals occur.
Examples include:
- traditional retirement accounts
- certain employer-sponsored retirement plans
- deferred investment gains
Taxes are eventually paid when funds are withdrawn or income is recognized.
Example
A worker contributing to a traditional retirement account may defer taxes on contributions and investment gains until retirement withdrawals occur.
Tax Deferral vs Tax Exemption
- Tax deferral postpones taxes until a later time.
- Tax exemption eliminates tax liability on certain income entirely.
FAQs About Tax Deferral
Do deferred taxes eventually need to be paid?
Yes. Taxes are usually paid when funds are withdrawn.
What accounts allow tax deferral?
Many retirement accounts offer tax-deferred growth.
Does tax deferral increase investment growth?
It can allow investments to grow without immediate tax reductions.
Related Terms
