The 2 Out of 3 Tax Rule

Key Takeaways

  • There are 3 tax benefits you can take advantage of when considering investments.
  • Most investment assets can take advantage of 2 out of the 3 tax benefits which are tax deductibility, tax deferment, and tax free.
  • Investing in one of these tax benefit type accounts can significantly increase your returns over time versus investing in a taxable asset.

I have a rule of thumb for you: If the government owes me money, now is better than later.

But if I owe the government, later is better than now. That’s a good rule-of-thumb tax rule and it works most of the time.

There are 3 tax benefits you can take advantage of and they are tax deductibility, tax deferment, and tax free. I want to look at taking advantage of 2 out of the 3 of them.

Let’s start with qualified assets:

  • 401(k) + Traditional IRAs – Tax deductible and tax deferred
  • Roth 401(k) or Roth IRAs – Tax deferred and then tax free

You get 2 out of the 3 tax benefits with both of these assets.

Then there are non-qualified assets like insurance which has special tax laws for it:

  • Cash value life insurance – Tax deferred and can be tax free during life if distributed properly and structured correctly.

Finally, we have other kinds of investments:

  • Investment real estate – A lot of the taxation can be covered by depreciation and other items, not being taxable as you move along, and you can exchange these for other properties and not pay tax from one property to the next.
  • Oil + gas – Special treatment for tax deductibility

There are also structures in the estate planning world that can create income tax benefits for certain individuals. Structured properly, in an irrevocable trust, the tax can be paid by the large taxable estate. From the beneficiaries’ perspective, the investments are growing tax free. There are other structures out there that have a lot of benefits as well.

Let’s take a look at a simple example of how you can make tax benefits work for you:

As you can see, investing $100k in a tax deductible/tax deferred 401(k) versus putting the money in a taxable account, doubles the money at the end of 30 years! That’s the advantage of using tax benefits where you can, it makes a huge difference.

So, think about this the next time you are doing an investment: how can you take advantage of these tax benefits to get the most out of your money? Give us a call or contact us if you need help looking over your investment options, and we can help you find what fits your needs.

Until next time, enjoy. Gary


Gary Klaben is in our Glenview, IL office and serves our clients who are now located all over the country. Instead of being afraid of change, Gary is always looking at how technology will affect clients and brings the best of it into the practice. Whether advising his clients, mentoring his team, or coaching entrepreneurs, he is always simplifying complexity and motivating others to take the next action that’s right for them.

Learn more about TransformingWealth™ , our proprietary approach using the best technology and proven research so you’ll make informed financial decisions. Schedule a complimentary  TransformingWealth Preview Meetingand start living the Good Life Managed Well™.

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