The IRS has given us two extra days to file this year due to April 15 falling on a Sunday and the recognition of Emancipation Day on April 16. This also provides a few extra days to consider contributing to an IRA.
Your employees are probably aware that any changes they make to their 401(k) contributions can’t impact last year’s tax picture but do they know about the ability to make a prior year contribution to an IRA and how an IRA contribution can increase their overall tax refund with a Saver’s Credit?
With the Saver’s Credit, the IRS provides a credit that offers up to $1,000 for single filers and $2,000 if filing jointly as an incentive to save for retirement. This credit is based on contributions made to either an employer-sponsored plan, traditional IRA, and/or a Roth IRA and based on income grid found on the form 8880, the credit can be worth up to 50 percent of the first $2,000 of retirement contributions.
Greater savings are possible
For lower income employees, making a 2011 contribution to a traditional IRA could even provide a greater advantage to their 401(k) contributions if they are eligible for the Saver’s Credit. Here’s an example:
Alice, a single employee with one (1) child who files as “Head of Household” with a gross income of $28,000 in 2011 and is deferring 6 percent to her 401(k).
Without an IRA With a $825 Traditional IRA
Gross income of $28,000 Gross income of $28,000
Adjusted gross income of $26,320 Adjusted gross income of $25,495
Saver’s Credit of $336 (.2 x $1,680) Saver’s Credit of $1,000 (.5 x $2,000)
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In the case study above, Alice would have already been eligible for a Saver’s Credit on her 401(k) deferral, but only at the .2 factor. So what’s with the odd amount of putting $825 in a traditional IRA?
An overlooked tax credit
Well, that is the amount needed for Alice to drop her AGI down to below the $25,500 threshold to increase the Saver’s Credit to a .5 factor, providing a 50 percent “match” from Uncle Sam on both her 401(k) contribution AND her IRA contribution. By setting aside $825, she gets an additional credit of $664 – which means her real net cost for her IRA is only $161.
Spreading the word to your workforce about this often overlooked tax credit can provide that one last push needed to encourage them to save more for their retirement. Encouragement is certainly needed since a recent EBRI study indicates that only 20.8 percent of workers age 21-64 own an IRA, and only 5.4 percent actually made a tax deductible IRA contribution in 2009, the latest year analyzed by EBRI.
So find room in your weekly newsletter or take a few moments to draft an e-blast this week about the IRA deadline before the opportunity is gone for your employees.
This was originally published on the Financial Finesse blog for Workplace Financial Planning and Education.