What are Tax-Advantaged Investments?

What are Tax-Advantaged Investments?

Tax-advantages investments are investments that offer lower income taxes in the long run when adjusted for the time value of money (i.e., viewed with present values). There are five primary potential income tax advantages:

  • 1. Tax-deductibility of contributions or purchases
  • 2. Tax-deductibility of non-cash items such as depreciation
  • 3. Deferral of tax liabilities on income or gains
  • 4. Reduced tax rates on income or capital gains
  • 5. No income tax on income on capital gains.

Most contributions to retirement programs (i.e., qualified plans) generate the first advantage (tax deductibility) along with the second. Some insurance-related investments can also offer tax deductibility of contributions. Real estate and natural resource limited partnerships can offer the second category: tax deductibility of non-cash expenses. Tax deferral is especially available in insurance products such as annuities. Reduced tax rates are available on common stocks with qualified dividends as well as stocks and other assets that enable long-term capital gain treatment.  Finally, municipal bonds are a great source of potentially tax-free interest.
In general, the degree of tax-advantage ranges from extremely tax-advantaged investments such as municipal bonds to investments with little or no income tax advantages such as most money market accounts (except municipal money market funds), bank CDs and corporate bonds.

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