WebXam Finance Practice Test 2025 - Free Finance Practice Questions and Study Guide

The primary advantage of a tax-deferred account is that withdrawals are subject to income tax only. This means that the funds you invest in such accounts can grow over time without being diminished by taxes each year. Essentially, you can accumulate investment gains — whether from interest, dividends, or capital appreciation — without having to pay taxes on those earnings until you withdraw the money. This allows for potentially greater growth, as the entirety of your investment can remain in the account to compound over time. When you eventually take distributions, typically during retirement when you may be in a lower tax bracket, you will only pay taxes on those funds at the income tax rate in effect at that time.

This structure promotes long-term investment and retirement savings, encouraging individuals to save for the future while deferring tax liabilities until a potentially more advantageous time.