'Tax now': How taxable accounts & investments fit in your financial plan

A smart savings and investing strategy can help you manage your financial needs through every stage of life. People often turn first to using retirement accounts with pre- and post-tax advantages, but there's another tax "bucket" to consider filling.

While tax-deferred and tax-free savings can help you build wealth to use as retirement income, assets in fully taxable accounts—also called "tax-now" accounts—play a part in establishing your nest egg.

By understanding the aspects of taxable accounts, you'll be better equipped to build a diverse approach to achieving your short- and long-term financial goals.

Savings accounts and investments fall into three buckets based on tax treatments: tax now, tax later and tax never. Assets that are tax-now are funded with dollars you've already paid income tax on, and they don't have any special tax treatment. These are called non-qualified accounts, meaning not tax-qualified. You will owe taxes on any interest, earnings or gains in the year they're generated or realized. Interest-bearing bank accounts and market-based investments generally fall in the tax-now bucket.

When you deposit money in interest-bearing bank accounts or initially invest in a brokerage account, you're using dollars that have already been subject to income taxes. In these taxable accounts, your money has the potential to grow. If it does, then you'll pay income tax on this "new" money.

Typically, this is done by reporting the amount on your annual federal and state income tax returns. You'll be issued an IRS Form 1099-INT or 1099-DIV if you had reportable interest or dividend gains. In some cases, such as selling stock or other securities for more than what you paid, you'll need to report your profit, or capital gains, when you file your taxes.

The other two tax treatments are distinctly different from tax now accounts because they offer special tax advantages:

• Tax-later accounts let you save money before you pay income tax on it, deferring the tax liability until you withdraw the money later. Common vehicles for this are traditional 401(k)s and IRAs.
• Tax-never accounts involve investing money after you've paid income tax on it and allow your money to potentially grow and be withdrawn tax-free. Roth retirement accounts, municipal bonds and cash value life insurance are examples of tax-never accounts.

Including taxable assets in your financial management strategy can give you flexibility in managing and achieving your short- and long-term goals. These accounts vary in liquidity and growth potential, so you'll want to consider how each or a mix of them could work best for you.

Deposit accounts with interest earnings at banks and credit unions provide easy access to your money while letting it grow conservatively. They're a good fit for holding your emergency funds and working toward your near-term financial goals when the security of your money is critical. The return on most savings accounts is modest compared to investments, but you can usually look into high-yield savings and money market accounts for the highest interest rates.

When you open a certificate of deposit, you agree to leave your money in the account for a specific amount of time or risk giving up a portion of the interest earnings. Generally, the longer the term, the higher the rate of interest you'll receive. CDs can be a smart way to build additional income when you know you won't need your money for several months or a few years.

Treasury bonds are backed by the U.S. government, making them one of the safest income-producing assets. However, they typically offer a lower interest rate than corporate bonds, which carry more risk. As such, they may be a good choice if your primary goal is asset preservation. While interest from U.S. Treasuries is subject to federal tax, it's generally exempt from state and local income tax.

Bonds tend to be a good tool for mid- to long-term financial goals, as they provide more growth potential than bank accounts but less volatility than stocks. Interest payments are taxed at the ordinary income rate, which is usually higher than the long-term capital gains rates used for other securities, so you'll want to consider certain strategies for investing in bonds.

Investing in a mutual fund lets you take advantage of potential market gains while spreading your risk over multiple types of securities. When you put money toward mutual funds outside of a retirement account, you'll have to pay a capital gains tax anytime you sell shares for a profit or when the fund distributes capital gains to shareholders. Even if you hold onto your shares or reinvest the distributions to purchase additional shares, you'll report the earnings for the year on your annual income tax return.

Because of volatility in the market, stocks are usually a better fit for money you won't need to access for several years. You don't need to pay capital gains tax until you sell your shares, but you are responsible for paying tax on any dividends you receive throughout the year. A financial advisor can help you determine which stocks may be a good fit for your particular strategy.

The tax treatment of different savings and investment assets is a critical factor in any financial plan. Allocating a portion of your savings to tax-now accounts can give you more control over your money, although it also has certain drawbacks.

Unlike tax-advantaged accounts where withdrawals before age 59½ may mean a 10% IRS penalty, you can generally access assets in a taxable account as needed. This makes them ideal for emergency funds and any savings you may need to tap before retirement.

Tax-advantaged retirement accounts like 401(k)s and IRAs are the bedrock of a sound retirement strategy. But once you've reached their contribution limits, putting additional money into a taxable account can help strengthen your nest egg.

The main reason to think about your savings and investments in terms of tax buckets is that each kind introduces income taxes at different points in your life. Spreading your holdings across them can help you minimize your overall tax burden while providing the income-spending opportunities you need now and later.

With a workplace retirement plan, you typically have to choose from a limited menu of investment funds. When you open a taxable brokerage account, you can purchase individual stocks, bonds, mutual funds and more complex investments, such as options.

Qualified retirement accounts offer important advantages that can significantly increase your after-tax return. A traditional 401(k), for example, allows you to contribute pre-tax dollars that grow on a tax-deferred basis. Generally, you don't owe the IRS anything until you make a withdrawal, which is subject to ordinary income taxes. Conversely, you contribute post-tax dollars to a bank or brokerage account, and you have to pay applicable taxes on any investment returns as you receive them.

When you contribute to your employer's workplace plan, you might be eligible for matching funds that can accelerate your long-term growth. That's not the case with a taxable account that you open on your own.

You can open some taxable accounts free of charge. However, banks and brokerage firms may require you to have a minimum opening deposit. You may also have to maintain a minimum balance to avoid maintenance fees.

When it comes to your hard-earned money, it's essentially a question of not if, but when taxes will be due. Saving or investing in a taxable account—alongside your tax-later and tax-never savings and investments—can spread out your tax liability and preserve easy access to your money when needed. A Thrivent financial advisor can help you develop a tax-diverse plan that fits your financial goals now and into the future.