Tax-Deferred vs. Tax-Free
Postponing tax versus never paying it.
What is Tax-Deferred vs. Tax-Free?
Tax-deferred means the bill arrives later at then-current ordinary rates (traditional IRA, annuities). Tax-free means qualified growth is never taxed (Roth, HSA for medical, muni interest). Clients and new advisors routinely conflate the two.
Tax-Deferred vs. Tax-Free: a worked example
A traditional IRA defers; a Roth IRA eliminates.
More terms in Taxes & Account Types
Capital Gain (Short-Term vs. Long-Term)
Profit on a sale, taxed by how long you held it.
Cost Basis
What you paid, used to compute gain or loss on sale.
Wash Sale Rule
A loss is disallowed if you rebuy the same security within 30 days.
Tax-Loss Harvesting
Realizing losses to offset gains and up to $3,000 of ordinary income.
Qualified Dividend
A dividend taxed at long-term capital gains rates.
Traditional IRA / 401(k)
Deduct now, grow tax-deferred, pay ordinary income tax on withdrawal.
Roth IRA / Roth 401(k)
Pay tax now, grow tax-free, qualified withdrawals are untaxed.
Required Minimum Distribution (RMD)
Mandatory annual withdrawals from tax-deferred accounts starting at 73.