Deferring Tax: Retirement Plans, HSAs, Gains and Real Estate

Most of the tax you can legally avoid this year is not avoided at all; it is postponed. Postponing sounds like a small thing, but money that would have gone to tax stays invested and compounds for you, you may pay later at a lower rate, and in some cases the bill never arrives. Deferral also has costs: income that piles up in tax-deferred accounts can push you into higher brackets later, and some deferral tools tie money up for years. This chapter shows what deferral is worth, then covers the main tools: workplace and self-employed retirement plans, the health savings account, the timing of capital gains, and the deferral rules for real estate.

Why paying later is worth so much

Deferral helps in three separate ways, and it is worth keeping them apart.

1. Growth on money that would have been tax. In a tax-deferred account, nothing is taxed while dividends, interest and gains are reinvested. In a taxable account, part of each year's return goes to tax.
2. A lower rate later. If you deduct a contribution at a high marginal rate and withdraw it in retirement at a lower one, you keep the difference. If your rate later is higher, deferral costs you on that part.
3. Sometimes never. Investments held until death get a new cost basis for heirs, so the gain in them is never taxed; money given to charity from an IRA after 70½ is never taxed either (chapter 2).

The first effect is easy to underestimate.

Saving $500 a month for 30 years at 7.0% a year, with nothing taxed along the way, grows to $584,726. If yearly tax trims the return to 6.0%, the same saving reaches $487,256. The amount you put in, $180,000, is identical. How much tax trims a taxable account in practice depends on what it holds: a broad stock index fund that pays modest qualified dividends loses little, while bonds, actively traded funds and real estate investment trusts lose more. The deferred account will still be taxed on withdrawal, so the comparison is fairest when you also think about the rate you will pay then.

Retirement plans: the biggest deferral most people have

A traditional 401(k), 403(b) or deductible IRA contribution is excluded from income this year and taxed when withdrawn.

A single employee with $100,000 of wages owes $13,170 in federal income tax. Contributing the full $24,500 to a traditional 401(k) lowers taxed wages to $75,500 and the tax to $7,780. The money left in the paycheck falls by less than the contribution, because part of it would have gone to tax anyway.

Whether traditional or Roth contributions come out ahead depends on your marginal rate now against your rate when you withdraw. Volume 1 of the retirement shelf explains the choice; the short version is that deferral pays most in your highest-earning years.

If you are self-employed, two plans let you defer far more than an employee can.

• A solo 401(k), for a business with no employees other than a spouse, lets you contribute as both employee and employer: up to $24,500 as employee deferrals, plus an employer contribution of about 20% of net self-employment earnings (25% of W-2 pay for an S corporation owner), with the total held to $72,000 plus any catch-up.
• A SEP IRA takes only the employer contribution, at the same percentage and under the same total limit. It is simpler and can be opened and funded up to your filing deadline, including extensions, but at moderate profits it allows much less than a solo 401(k), and if you have employees you must contribute for them at the same rate.

The solo 401(k) contribution calculator works out the most you can put in from your profit or salary.

The health savings account

If you are covered by a qualifying high-deductible health plan, a health savings account is the only account in the tax code with three tax breaks: contributions are deductible (or excluded from pay, which also skips payroll tax when made through an employer), growth is untaxed, and withdrawals for qualified medical costs are tax-free. The 2026 limits are $4,400 for self-only coverage and $8,750 for family coverage, including any employer money, with an extra amount from age 55.

Used as a deferral tool, the approach is to invest the account, pay current medical bills from other money, keep the receipts, and reimburse yourself years later; there is no deadline for reimbursing a qualified expense incurred after the account was opened. After 65, withdrawals for anything else are taxed as income without penalty, like a traditional IRA. Before 65, a non-medical withdrawal is taxed and carries a 20% additional tax. The HSA retirement calculator compares this with other accounts, and the HDHP vs PPO calculator checks whether the plan itself makes sense for you.

Timing capital gains

In a taxable account, you choose when gains are taxed, because they are taxed only when you sell.

• Hold for more than a year. Gains on investments held more than one year are taxed at 0%, 15% or 20%; gains on shorter holdings are taxed as ordinary income.
• Use low-income years. Long-term gains are taxed at 0% while taxable income stays at or below $49,450 for a single filer or $98,900 on a joint return. In a sabbatical, early retirement or a year between jobs, you can sell winners up to that line, pay nothing, and buy them back at a higher cost basis.
• Harvest losses. Selling investments below cost lets losses offset gains, plus up to $3,000 of other income a year, with the rest carried forward. Buying the same or a substantially identical investment within 30 days before or after the sale disallows the loss for now (the wash-sale rule).

The capital gains harvesting calculator shows how much gain fits in the 0% band at your income.

Real estate deferral

Three rules matter for people who own rental or investment property.

Depreciation. A residential rental building is depreciated over 27.5 years (commercial buildings over 39), which shelters part of the rent from tax each year even though no cash is spent. When the property is sold, that depreciation is taxed back at up to 25%.

Like-kind exchanges (section 1031). Selling investment or business real estate and buying other real estate through a qualified intermediary defers the whole gain, including the depreciation, into the new property. Since 2018 this applies only to real property, not equipment or vehicles. The deadlines are strict: identify the replacement within 45 days and close within 180 days. If you hold exchanged property until death, your heirs receive it with a cost basis reset to market value, and the deferred gain is never taxed.

Installment sales. When you sell property and receive payments over several years, the gain is generally taxed as the payments arrive rather than all at once, which can keep it in lower brackets. Depreciation recapture is taxed in the year of sale regardless, and the method is not available for publicly traded stocks or for inventory.

When deferral backfires

Deferral is a bet on future rates and future income. Large traditional balances lead to large required minimum distributions from age 73 or 75, which can push retirees into higher brackets, raise Medicare premiums and make more Social Security taxable. Heirs who inherit traditional accounts must generally empty them within ten years, often during their own peak earning years (chapter 8). A mix of traditional, Roth and taxable money gives you the most control over the rate you pay later.