Dictionary of Financial Terms

You participate in a 401(k) retirement savings plan by deferring part of your salary into an account set up in your name. Any earnings in the account are federal income tax deferred. If you change jobs, 401(k) plans are portable, which means that you can move your accumulated assets to a new employer’s plan, if the plan allows transfers, or to a rollover IRA.

With a traditional 401(k), you defer pretax income, which reduces the income tax you owe in the year you made the contribution. You pay tax on all withdrawals at your regular rate. With the newer Roth 401(k), which is offered in some but not all plans, you contribute after-tax income. Earnings accumulate tax deferred, but your withdrawals are completely tax free if your account has been open at least five years and you’re at least 59½.

In either type of 401(k), you can defer up to the federal cap, plus an annual catch-up contribution if you’re 50 or older. However, you may be able to contribute less than the cap if you’re a highly compensated employee or if your employer limits contributions to a percentage of your salary. Your employer may match some or all of your contributions, based on the terms of the plan you participate in, but matching isn’t required.

With a 401(k), you are responsible for making your own investment decisions by choosing from among investment alternatives offered by the plan. Those alternatives typically include separate accounts, mutual funds, annuities, fixed-income investments, and sometimes company stock.

You may owe an additional 10% federal tax penalty if you withdraw from a 401(k) before you reach 59½. You must begin to take required minimum distributions by April 1 of the year following the year you turn 72 unless you’re still working. But if you prefer you can roll over your traditional 401(k) assets into a traditional IRA and your Roth 401(k) assets into a Roth IRA.

A 403(b) plan, sometimes known as a tax-sheltered annuity (TSA) or a tax-deferred annuity (TDA), is an employer-sponsored retirement savings plan for employees of not-for-profit organizations, such as colleges, hospitals, foundations, and cultural institutions. Some employers offer 403(b) plans as a supplement to – rather than a replacement for – defined benefit pensions. Others offer them as the organization’s only retirement plan.

Your contributions to a traditional 403(b) are tax deductible, and any earnings are tax deferred. Contributions to a Roth 403(b) are made with after-tax dollars, but the withdrawals are tax free if the account has been open at least five years and you’re 59½ or older. There’s an annual contribution limit, but you can add an additional catch-up contribution if you’re 50 or older.

With a 403(b), you are responsible for making your own investment decisions by choosing from among investment alternatives offered by the plan. You can roll over your assets to another employer’s plan or an IRA when you leave your job, or to an IRA when you retire. You may withdraw without penalty once you reach 59 1/2, or sometimes earlier if you retire. You must begin required withdrawals by April 1 of the year following the year you turn 70½ unless you are still working. In that case, you can postpone withdrawals until April 1 following the year you retire.

These tax-deferred retirement savings plans are available to state and municipal employees. Like 401(k) and 403(b) plans, the money you contribute and any earnings that accumulate in your name are not taxed until you withdraw the money, usually after retirement. The contribution levels are also the same, though 457s may allow larger catch-up contributions. You also have the right to roll your plan assets over into another employer’s plan, including a 401(k) or 403(b), or an individual retirement account (IRA) when you leave your job.

Each 529 college savings plan is sponsored by a particular state, and while each plan is a little different, they share many basic elements. When you invest in a 529 savings plan, any earnings in your account accumulate tax free, and you can make federally tax-free withdrawals to pay for qualified educational expenses, such as college tuition, room and board, and books at any accredited college, university, vocational, or technical program in the United States and a number of institutions overseas.

Some states also exempt earnings from state income tax, and may offer additional advantages to state residents, such as tax deductions for contributions.

You must name a beneficiary when you open a 529 savings plan account, but you may change beneficiaries if you wish, as long as the new beneficiary is a member of the same extended family as the original beneficiary.

In most cases, you may choose any state’s plan, even if neither you nor your beneficiary live in that state. There are no income limits restricting who can contribute to a plan, and the lifetime contributions are more than $300,000 in some states. You can make a one-time contribution of $75,000 without incurring potential gift tax, provided you don’t make another contribution for five years. Or, you may prefer to add smaller amounts, up to the annual gift exclusion, which is $15,000 per recipient in 2021.

An accelerated death benefit (ADB) in a life insurance policy may allow the policyholder to qualify to use a portion of the death benefit to pay for certain healthcare expenses, such as the costs of a terminal illness or long-term care.

Using the ADB, you take cash advances from the policy, reducing the death benefit by up to a fixed percentage. The balance is paid to your beneficiaries on your death.

While an accelerated death benefit can help ease current financial burdens, including this option in your policy increases the cost of coverage. And, if you do take money out, it reduces what your beneficiaries receive.

An account balance is the amount of money in a financial account.
For example, a savings account balance is the amount of money in the savings account.
An account balance may also refer to the amount of money outstanding on a loan, line of credit, or credit card. Your credit card balance, for example, is the amount of money you owe a credit card company.

With your 401(k), your account balance, also called your accrued benefit, is the amount your 401(k) account is worth on a date that it’s valued. For example, if the value of your account on December 31 is $250,000, that’s your account balance.

You use your 401(k) account balance to figure how much you must withdraw from your plan each year, once you start taking required distributions after you turn 70 1/2.

Specifically, you divide the account balance at the end of your plan’s fiscal year by a divisor based on your life expectancy to determine the amount you must take during the next fiscal year.

An accredited investor is a person or institution that the Securities and Exchange Commission (SEC) defines as being qualified to invest in unregistered securities, such as privately held corporations, private equity investments, and hedge funds.

The qualification is based on the value of the investor’s assets, or in the case of an individual, annual income.

Specifically, to be an accredited investor you must have a net worth of more than $1 million excluding the value of your primary residence, or a current annual income of at least $200,000 with the anticipation you’ll earn at least that much next year. If you’re married, that amount is increased to $300,000.

Some individuals qualify as accredited based on measures of professional knowledge, experience, or certification defined by the SEC.

Institutions are required to have assets worth $5 million to qualify as accredited investors. The underlying principle is that investors with these assets have the sophistication to understand the risks involved in the investment and can afford to lose the money should the investment fail.

Accrued interest is the interest that accumulates on a fixed-income security between one interest payment and the next.

The amount is calculated by multiplying the coupon rate, also called the nominal interest rate, times the number of days since the previous interest payment.

Interest on most bonds and fixed-income securities is paid twice a year. On corporate and municipal bonds, interest is calculated on 30-day months and a 360-day year. For government bonds, interest is calculated on actual days and a 365-day year.

When you buy a bond or other fixed-income security, you pay the bond’s price plus the accrued interest and receive the full amount of the next interest payment, which reimburses you for the accrued interest payment you made when you purchased the bond. Similarly, when you sell a bond, you receive the price of the bond, plus the amount of interest that has accrued since you received the last interest payment.

On a zero-coupon bond, interest accrues over the term of the bond but is paid in a lump sum when you redeem the bond for face value. However, unless you hold the bond in a tax-deferred or tax-exempt account, you owe income tax each year on the amount of interest that the government calculates you would have received, had it been paid.

The accumulation period refers to the time during which your retirement savings accumulate in a deferred annuity. Because annuities are federal income tax deferred, all earnings are reinvested to increase the base on which future earnings accumulate, so you have the benefit of compounding.

When you buy a deferred fixed annuity contract, the company issuing the contract promises a fixed rate of return during the accumulation period regardless of whether market interest rates move up or down. With a deferred variable annuity, the amount you accumulate during the accumulation period depends on the performance of the separate account funds you select from among those offered in the contract, in addition to the rate of interest credited from time to time on any amounts that may have be allocated to the Interest Accumulation Account.

At the end of the accumulation period, you can choose to annuitize, agree to some other method of receiving income, or roll over your account value into an immediate annuity. The years in which you receive annuity income are sometimes called the distribution period.

Accumulation units are the shares you own in the separate account funds of a variable annuity during the period you’re putting money into your annuity. If you own the annuity in a 401(k) plan, each time you make a contribution, that amount is added to one or more of the separate account funds to buy additional accumulation units.

The value of your annuity is figured by multiplying the number of units you own by the dollar value of each unit. During the accumulation phase, that value changes to reflect the changing performance of the underlying investments in the separate account funds.

An acquisition occurs if a company buys another company outright or accumulates enough shares to take a controlling interest.

The acquiring company’s motive may be to expand the scope of its products and services, to make itself a major player in its sector, or to fend off being taken over itself.

To complete the deal, the acquirer may be willing to pay a higher price per share than the price at which the stock is currently trading. That means shareholders of the target company may realize a substantial gain, so some investors are always on the lookout for companies that seem ripe for acquisition.

Sometimes acquisitions are described, more bluntly, as takeovers and other times, more diplomatically, as mergers. Collectively, these activities are referred to as mergers and acquisitions, or M&A, to those in the business.

Managers of actively managed mutual funds buy and sell investments to achieve a particular goal, such as providing a certain level of return or beating a relevant benchmark.

As a result, they generally trade much more frequently than managers of passively managed funds whose goal is to mirror the performance of the index a fund tracks.

While actively managed funds may provide stronger returns than index funds in some years, they typically have higher management and investment fees.

An adjustable rate mortgage is a long-term loan you use to finance a real estate purchase, typically a home.

Unlike a fixed-rate mortgage, where the interest rate remains the same for the term of the loan, the interest rate on an ARM is adjusted, or changed, during its term.

The initial rate on an ARM is usually lower than the rate on a fixed-rate mortgage for the same term, which means it may be easier to qualify for an ARM. You take the risk, however, that interest rates may rise, increasing the cost of your mortgage. Of course, it’s also possible that the rates may drop, decreasing your payments.

The rate adjustments, which are based on changes in one of the publicly reported indexes that reflect market rates, occur at preset times, usually once a year but sometimes less often.

Typically, rate changes on ARMs are capped both annually and over the term of the loan, which helps protect you in the case of a rapid or sustained increase in market rates.

However, certain ARMs allow negative amortization, which means that if market rates rise higher than the cap, any unpaid interest is capitalized and added to the loan principal. This increases the amount you own on the loan, though there is a cap on the amount of interest that can be added.

Your AGI is your gross, or total, income from taxable sources minus certain deductions. Income includes salary and other employment income, interest and dividends, and long- and short-term capital gains and losses. Deductions include unreimbursed business and medical expenses, contributions to a deductible individual retirement annuity (IRA), and alimony you pay.

You figure your AGI on page one of your federal tax return, and it serves as the basis for calculating the income tax you owe. Your modified AGI is used to establish your eligibility for certain tax or financial benefits, such as deducting your IRA contribution or qualifying for certain tax credits.

Affinity fraud occurs when a dishonest person plays on your affiliation with a group — such as a house of worship, social club, support group, charity, or veterans’ group — as a way to win your confidence in order to sell you something worthless or trick you into handing over cash.

The scammer may actually be a member of the group or may just pretend to be.

Affinity fraud is one the most difficult scams to protect yourself against because being suspicious of colleagues can undermine the reason you belong to a group.

An after-tax contribution is money you put into your 401(k) or other employer-sponsored retirement savings plan either instead of or in addition to your pretax contribution.

You make an after-tax contribution if you’ve chosen to participate in a Roth 401(k) or Roth 403(b) arrangement rather than your employer’s traditional tax-deferred 401(k) or 403(b). When you eventually withdraw from your account, the after-tax contributions are not taxed again. Neither are the earnings if you follow the withdrawal rules for these accounts.

You also make after-tax contributions to Roth individual retirement accounts (Roth IRAs), education savings accounts, and 529 plans. The contributions are not taxed at withdrawal and neither are the earnings if you follow the rules that apply.

If you make what are known as excess deferrals, or after-tax contributions to a tax-deferred account, that money is not taxed at withdrawal either. These after-tax contributions are permissible if the amount your employer allows you to contribute is less than the federal cap and you are making up the difference.

However, since pretax contributions and all earnings in the account are tax deferred, figuring the tax that’s due on your distributions may be more complicated than if you had made only pretax contributions.

After-tax income, sometimes called post-tax dollars, is the amount of income you have left after federal income taxes (plus state and local income taxes, if they apply) and other mandatory amounts have been withheld from your gross income.

If you contribute to a Roth IRA or a 529 college savings plan, purchase a nonqualified annuity, or invest in a taxable account, you are using after-tax income.

Agency bonds and short-term discount notes are issued by federal government agencies, including Ginnie Mae (GNMA) and the Tennessee Valley Authority (TVA), and sold to investors.

The money raised by selling these debt securities may be used to make reduced-cost loans available to specific groups, including home buyers and farmers, or to fund other projects, such as dams and flood-control.

Interest paid on the securities is generally higher than on US Treasury issues, and the bonds are considered nearly as safe from default.

In addition, the interest on some — but not all — agency bonds is exempt from some income taxes.

Aggressive-growth mutual funds buy stock in companies that show rapid growth potential, including start-up companies and those in hot sectors.

While these funds and the companies they invest in can increase significantly in value, they are also among the most volatile. Their values may rise much higher — and fall much lower — than the overall stock market or the mutual funds that invest in the broader market.

When a company based overseas wants to sell its shares in the US markets, it can offer them through a US bank, which is known as the depositary. The depositary bank holds the issuing company’s shares, known as American depositary shares (ADSs), and offers them to investors as certificates known as American depositary receipts (ADRs). Each ADR represents a specific number of shares.

ADRs are quoted in US dollars and trade on US markets just like ordinary shares. While hundreds are listed on the major exchanges, the majority are traded over the counter, usually because they’re too small to meet exchange listing requirements.