When you invest in a stock or a bond, you trade your cash for that investment. Those investments then provide you with a return in a few different ways. Stocks can increase in value creating capital gains, or they can pay out dividends to investors from company profits. Bonds can also generate capital gains if they increase in value, and when they pay interest to the bondholder, they create interest income.
It’s great when you have investments that pay you back right? But there’s one catch: Uncle Sam wants his share of the investment returns as well. Capital gains are taxed based on how long you held the investment and your income, qualified dividends are taxed based on your income, and non-qualified dividends and interest income are taxed at your marginal tax rate. Those taxes can be a real drag on your after-tax returns, and any account that is not tax-advantaged will suffer from them.
In the 1970s, the government recognized that it needed to do a little more to encourage retirement savings, so it created incentives for people to save into certain types of accounts. A tax-advantaged account is one where, no matter how well your investments do, you don’t pay any taxes on your returns.
Tax-advantaged accounts include IRAs, employer sponsored retirement plans (401k, 403b, TSP), 529s (for educational expenses), HSAs (for medical expenses), and donor-advised funds (for charitable giving).