The Retirement Saver’s Credit – Cool Cash for Smart Young People
The Retirement Saver’s Credit sounds like an old person kind of tax credit, but, for the most part, it’s really more of a young person’s credit and it gets totally ignored. The coolest part about the Saver’s Credit is that it’s a credit, not a deduction. That means that it’s a dollar for dollar reduction of your tax liability. A $100 tax credit would reduce your taxes by $100. A $100 tax deduction would reduce your taxes by $10 to $35 depending on your tax bracket. See the difference? Tax credits are better than deductions. The Saver’s Credit is for people with lower incomes so we’re looking at 10 to 15% tax brackets.
The Saver’s Credit can be worth up to $1,000 ($2,000 if you’re married filing jointly), so it’s pretty valuable. Basically, it’s like the government is giving you money for saving for retirement – how cool is that?
- You have to be 18 or over
- You can’t be a full time student
- You can’t be claimed as a dependent by someone else
So what are the income limitations?
- Single, married filing separately, or qualifying widower – $28, 250
- Head of Household – $42,375
- Married filing jointly – $56,500
So what do I have to invest in to get this tax credit? That’s the easy part, you can invest in any of the following:
- A traditional or Roth IRA
- Most any employer sponsored retirement plan
The one thing that doesn’t qualify is rollover contributions. Also, if you’ve taken money out of a retirement plan, it could reduce your ability to qualify for the credit.
So if I put $1,000 into an IRA the government is going to give me a $1,000 tax credit? No. I said it’s easy, but it’s not that easy. It works on a sliding scale: the lower your income, the larger the percentage you get, somewhere between 10% and 50% of your contribution. The form you need is form 8880. Here’s a link: http://www.irs.gov/pub/irs-pdf/f8880.pdf
Let’s say you’re single, you made $18,000, and you put $2,000 into a Roth IRA. You’d qualify for a $400 tax credit. You can figure that out by looking at the chart and you’ll see you qualify for a 20% tax credit.
The coolest thing about the Retirement Saver’s Credit is that you can play with it. Let’s go back to the example above – you’re single and made $18,000. You have until April 15th to put money into an IRA, so you don’t have to have this all done before tax time. At $18,000 income, you qualify for a 20% tax credit, but at $16,999 you qualify for a 50% tax credit. So if you put $1,001 into a traditional IRA (instead of the $2,000 you were going to put into the ROTH), it will lower your overall income, making your “adjusted gross income” or AGI, $16,999. Now, instead of getting a $400 tax credit on $2000, you get a $500 tax credit on $1,001 – and you still have another $999 left over to save or spend.
So you might be thinking, “Cool, I’ll just put it all into an IRA!” And you can, but you reach a point where the credit doesn’t do you any more good. The Retirement Saver’s Credit is what’s called a “non-refundable” credit. That means that once you zero out your tax liability, you don’t get anything more.
Let’s go back to our example: you’re single, you make $18,000. This time you put the whole $2,000 into a traditional IRA. Now your AGI is $16,000, that means your taxable income is $6,500 and your tax liability is now $658. So you complete form 8880 and you see that you qualify for a 50% credit which is $1,000 but since your tax liability is only $658—that’s all the credit you get.
Now if you have $2,000 to put into savings, I am 100% behind you saving the full $2,000. But, you may be better off putting some of that money into a regular savings account instead. It’s something to play with. Never sneeze at a 50% return on your investment. Let’s be real, that’s what this is. Even the 10% and 20% return is a good deal. But once you’ve maxed out that return, then you need to look at what other options you’ve got. That’s why I like IRAs. You can figure out your tax return first before make the investment. The absolute best part – you can make the investment with your income tax refund! You can actually do your tax return, plan out your IRAs, and not fund them until after you’ve gotten your refund.
Not everyone will qualify for the Credit for Qualified Retirement Savings Contributions, but if your income is anywhere close, you’ll definitely want to at least look into it.