Definition
Tax deferral allows investments to compound without annual tax drag. In a taxable account earning 8%, an investor in the 25% bracket effectively earns 6% after paying annual taxes on gains and dividends. In a tax-deferred account, the full 8% compounds. Over 30 years, $100K grows to $1,006K tax-deferred vs $574K after-tax—a 75% advantage from tax deferral alone.
lightbulb Example
$100,000 invested at 8% for 30 years: tax-deferred grows to $1,006,266, then taxed at 25% on withdrawal: net $754,700. Taxable account (25% annual tax on gains): grows to only $574,349. Tax deferral advantage: $180,351.
verified_user Key Points
- Full returns compound without annual tax drag
- 75%+ advantage over 30 years vs taxable
- Traditional IRA, 401(k), annuities offer tax deferral
- Taxes due upon withdrawal at ordinary income rates