How Do Investment Tax Breaks Actually Work?

With Tax Day right around the corner, we thought it would be a good idea to revisit tax breaks on your investment accounts.  We see too many people out there invested in low return vehicles with high tax rates.  When possible, we obviously want it the other way around: higher return investment vehicles with lower tax rates.

This illustration might be helpful to understand exactly how saving taxes on your investments can help you reach your goals faster.  We often lay out these specific tax shelters for clients in a way that ranks them by tax-efficiency.  For example, which accounts help you keep more of your investment earnings?

If we assume a 24% tax rate and a ~10% investment return, the table might look something like this:

1. 401(k) (and sometimes SEP IRAs and Simple IRAs)

Most everyone knows about 401(k)s, and the potential benefits of the tax break plus an employer match.  In our example, let’s say the employer match is 40% of the employee’s contribution.  Plus, the tax break on the front end in a traditional 401(k) account, or the tax break on the back end in a Roth 401(k) account allows you to keep the rest of your growth.  So, you get to keep 100% of your growth, plus the potential match.  In our example, you’re at a ~14% potential return on your money.

2. Health Savings Account

If used as a long-term investment account, then the return on your assets is equal to that investment return PLUS the tax break you received when you deposited the money.  So, an investor would technically keep all their growth, plus the 24% initial tax break.  In our example, that would be ~12.4%.

3. Roth IRA

This one is pretty straightforward.  If you are eligible to contribute, and if you use the account in accordance with IRS rules, you get to keep all the growth.  We’ll call that ~10% in our example.

4. Joint or Individual Investment Account (commonly called a brokerage account)

Now we get to the point where taxes start eating away at your return.  In this type of account, the best you can typically do is to keep 85% of your investment return on investment sale proceeds.  Let’s call it an ~8.5% after-tax return.

5. Annuities

We usually put annuities last because they are typically taxed at an individual’s highest rate.  This is the ordinary income rate.  In our example, the investor would net only a ~7.4% return.

So, why all this number crunching? Because, as you can see, the return of no. 1 almost doubles that of no. 5.  But, that’s not the worst of it.  After you subtract inflation (say…3%) from these numbers, no. 1 is two and a half times more than no. 5, and twice as much as no. 4.

The point is plain and simple: when your money works harder, you will likely reach your goals faster.  Visit these matters with your investment or tax professional to help ensure you are maximizing your opportunities to shelter your investment growth from taxes.

Got questions?  Contact the Purifoy Wealth Team today!

*This article was written by Michael J. Purifoy, CPA, CFP®, Executive Vice President, SageSpring Wealth Partners and Wealth Advisor, RJFS

alor1348 jeff
Jeffrey T. Dobyns


President, SageSpring | Financial Advisor, RJFS 

Jeffrey T. Dobyns

President, SageSpring | Financial Advisor, RJFS

Beyond crunching numbers and investment strategies, at SageSpring, we’re about building relationships. When you encounter Founder & President of SageSpring, Jeff Dobyns, it’s easy to understand why this is at the very heart of who we are as a firm. You won’t find stuffy formalities with Jeff; instead, you can expect to find him sharing a warm smile, communicating a compelling vision, or patiently untangling life’s complex challenges with clients. He believes in truly getting to know clients, understanding their aspirations and priorities, and navigating their financial plans with a tailored, comprehensive approach. Our team members have often been caught taking notes on Jeff’s effortless relationship skills from a distance, and we admire them for striving to learn from one of the best. 

Jeff’s financial expertise and wisdom are the perfect match to his innate people skills. Jeff holds the prestigious CERTIFIED FINANCIAL PLANNERTM certification, Chartered Life Underwriter (CLU®), and Chartered Financial Consultant (ChLU®) designations, and has held executive positions with financial planning firms for more than two decades. 

His dedication extends beyond the office to the boardroom and the local community, where Jeff is passionate about giving back. He serves as Chairman of the Board of Men of Valor, a prison ministry and mentoring program. Jeff also serves on the board of Send Musicians to Prison, which shares hope, healing and restoration with the imprisoned through musicians & artists. Jeff actively supports other initiatives in the community by sitting on the board of The Signatry of Middle Tennessee and the Halftime Institute of Nashville. 

Witnessing his four children, Gracyn, Hunter, Tanner, and Logan, excel on the field is almost just as rewarding, if not more, than celebrating the victories of seeing his clients overcome obstacles and build wealth. Spending weekends boating on the lake, hiking mountain trails, and fishing with his family are the moments Jeff cherishes most. It’s this grounded perspective that reveals the true meaning of wealth for Jeff: not just numbers on a page, but the freedom to create experiences that enrich your life and the lives of those you love. When you choose the Dobyns McMillin Wealth Team, you choose more than financial expertise. You choose a partner who champions your dreams, celebrates your victories, and walks besides you on the path to achieving your unique goals.

**Certified Financial Planner Board of Standards Inc. owns the certification marks CFP®, CERTIFIED FINANCIAL PLANNER TM, CFP® (with plaque design) and CFP® (with flame design) in the U.S., which it awards to individuals who successfully complete CFP Board’s initial and ongoing certification requirements.