Investing Retirement Planning Which Retirement Plan Offers the Best Tax Benefit? Which of the following retirement plans offer the best tax benefits? By Kent Thune Kent Thune Twitter Kent Thune has spent more than two decades in the financial services industry and owns Atlantic Capital Investments, an investment advisory firm, in Hilton Head Island, South Carolina. He's written hundreds of articles for a range of outlets, including The Balance, Kiplinger, Marketwatch, and The Motley Fool. learn about our editorial policies Updated on April 30, 2022 Reviewed by Marguerita Cheng Reviewed by Marguerita Cheng Twitter Marguerita is a Certified Financial Planner (CFP®), Chartered Retirement Planning Counselor (CRPC®), Retirement Income Certified Professional (RICP®), and a Chartered Socially Responsible Investing Counselor (CSRIC). She has been working in the financial planning industry for over 20 years and spends her days helping her clients gain clarity, confidence, and control over their financial lives. learn about our financial review board Fact checked by Emily Ernsberger Fact checked by Emily Ernsberger Twitter Emily Ernsberger is a fact-checker and award-winning former newspaper reporter with experience covering local government and court cases. She also served as an editor for a weekly print publication. Her stint as a legal assistant at a law firm equipped her to track down legal, policy and financial information. learn about our editorial policies Share Tweet Pin Email In This Article View All In This Article Tax Benefits of Top Plans Factors That Determine Best Retirement Plan The Bottom Line Photo: Sam Edwards/OJO Images/Getty Images Choosing a retirement plan that offers the best tax benefit depends upon several factors, including your income and the tax benefits unique to each type of plan. Before investing your hard-earned money in a retirement plan, see which one will benefit you and your unique financial situation. For example, just because a 401(k) plan allows for higher annual contribution rates doesn't mean it's the best retirement plan for your needs. Also, the popular Roth IRA is not always the best individual retirement account for everyone saving for retirement. Tax Benefits of Top Retirement Plans and How They Work There are many different types of retirement plans to choose from, but the primary retirement savings vehicles are the traditional IRA, Roth IRA, SEP IRA, and 401(k) plan. Here are the primary features and benefits of each type of retirement plan. Traditional IRA This is funded with pre-tax dollars, and earnings grow tax-deferred. This means that contributions reduce taxable income during the calendar year the contributions are made (or at least prior to the tax filing for the calendar year). Income taxes are paid when distributions (withdrawals) are made, usually during retirement years. The maximum contribution for 2021 and 2022 is $6,000. An additional $1,000 "catch up" contribution can be made for individuals age 50 or older during the year. There are no income limits for traditional IRA contributions; however, there are limits on receiving tax deductions beginning at $66,000 modified adjusted growth income (MAGI) for singles and $105,000 MAGI for those married filing jointly in 2021. These limits increase to $68,000 for singles and $109,000 for married couples in 2022. Roth IRA A Roth IRA is funded with after-tax dollars and grows tax-deferred. You can withdraw only your contributions from a Roth IRA with no penalty at any age. At age 59 1/2, you can withdraw both contributions and earnings with no penalty, provided your Roth IRA has been open for at least five tax years. The maximum contribution for 2021 and 2022 is $6,000. An additional $1,000 "catch up" contribution can be made for individuals age 50 or older during the year. For 2021, you can make a full contribution if your MAGI is less than $125,000 and you're filing as single. Those married filing jointly can make a full contribution if your MAGI is less than $198,000. These limits increase to $129,000 for singles and $204,000 for married couples in 2022. SEP IRA Designed for self-employed individuals, small-business owners and their employees, a SEP IRA is funded with pre-tax dollars and grows tax-deferred. Withdrawals are taxed at 10%, as are traditional IRA distributions. The contribution limit is the lesser of the two: 25% of salary or $58,000 in 2021. This increases to $61,000 in 2022. 401(k) Plan These employer-sponsored retirement plans are funded with pre-tax or after-tax (Roth) contributions, which grow tax-deferred until withdrawal after separation of service from the employer. Many employers offer matching contributions when employees contribute their own money through payroll deduction. The contribution limit increased is $19,500 for 2021 and increases to $20,500 in 2022. The catch-up contribution for participants age 50 and older is $6,500 in 2021 and 2022. Limits do not include employer-matching contributions. The 10% early withdrawal penalty applies for distributions made prior to age 59 1/2. 403(b) Plan Similar to 401(k) plans, 403(b) plans are employer-sponsored plans with the same contribution limits and employer-match feature. Also called tax-sheltered annuities (TSAs), 403(b) plans are typically available through public schools and certain tax-exempt organizations. Factors That Determine Which Retirement Plan Offers You the Best Benefits Before deciding which retirement plan offers you the best benefit, consider these primary factors: Your income: Generally, individuals with high income benefit most by making pre-tax contributions. The opposite is also true: If you are in a low tax bracket, you may benefit most by making Roth contributions. Since traditional and Roth IRAs have income limits, some individuals will not qualify to make contributions. Also, you must have earned income to contribute to an IRA. One exception to this is when one spouse has earned income and the other does not. The employed spouse may be able to make contributions to a spousal IRA. Availability of employer-sponsored plans: If you have access to a 401(k) plan or 403(b) plan, and the employer is making matching contributions, you should make your own contributions, at least up to the minimum amount to receive the full match. IRAs don't have a matching feature. Small-business owners: If you own a business with few or no employees, you may have more options for retirement plans for yourself and your employees. Key Takeaways Here are the primary retirement plans and the individuals who benefit most by them:Traditional IRA: Best for individuals who expect to be in a lower tax bracket in retirement than they are when contributions are made, or those who need to reduce current taxable income. Must have earned income (or a spouse with earned income) to make contributions.Roth IRA: Best for individuals who expect to be in a higher tax bracket in retirement than they are when making contributions. Must have earned income (or a spouse with earned income) to make contributions.SEP IRA: Best for small-business owners and self-employed individuals who want a simple means of maximizing retirement plan contributions, which are potentially higher than other IRA types.401(k) plan or 403(b) plan: Best for individuals eligible to participate, and when an employer offers matching contributions. Also ideal for individuals whose income is too high to contribute to a traditional or Roth IRA. Most 401(k) plans allow for either traditional or Roth contributions. The Bottom Line Saving for retirement in a tax-advantaged retirement plan is almost always a good idea. When capital gains and dividends are not taxed, the advantage of compound interest advantage in investing becomes more powerful. Was this page helpful? Thanks for your feedback! Tell us why! Other Submit Sources The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy. Internal Revenue Service. "2021 IRA Deduction Limits - Effect of Modified AGI on Deduction If You Are Covered by a Retirement Plan at Work." Internal Revenue Service. "2022 Limitations Adjusted as Provided in Section 415(d), etc.," Page 3. Internal Revenue Service. "Publication 590-B (2019), Distributions From Individual Retirement Arrangements (IRAs)." Internal Revenue Service. "Retirement Topics - IRA Contribution Limits." Internal Revenue Service. "Amount of Roth IRA Contributions That You Can Make For 2021." Internal Revenue Service. "2022 Limitations Adjusted as Provided in Section 415(d), etc.," Page 4. Internal Revenue Service. “SEP Contribution Limits (Including Grandfathered SARSEPs).” Internal Revenue Service. "How Much Can I Contribute to My Self-Employed SEP Plan if I Participate in My Employer’s SIMPLE IRA Plan?" Internal Revenue Service. "Retirement Topics - 401(k) and Profit-Sharing Plan Contribution Limits." Internal Revenue Service. "2022 Limitations Adjusted as Provided in Section 415(d), etc.," Page 1. Internal Revenue Service. "Retirement Topics - Exceptions to Tax on Early Distributions." Internal Revenue Service. "IRC 403(b) Tax-Sheltered Annuity Plans."