The Saver’s Tax Credit

Since most employers today no longer provide defined benefit pension plans for their employees, the burden of retirement saving has shifted to the employee. Not surprisingly, saving for retirement is a pretty low priority for the many Americans who are focused on how they are going to pay this month’s bills.

Today, I want to share information about the Tax Credit for Qualified Retirement Savings Contributions, commonly known as the Saver’s Credit, and give you my top strategies for how to make the most of this valuable credit. The credit was created to encourage and help low to moderate income families save for retirement. But it only works if people know about it!

The credit is calculated on IRS Form 8880, and gets entered on line 51 of your Form 1040 tax return. My hope is that even if you make too much for this credit, you can share this information with a young adult and encourage them to start contributing to their own IRA or 401(k).

To qualify for the tax credit, you need to be over 18, not a full time student, and not listed as a dependent on someone else’s return. For 2016, your Adjusted Gross Income (1040 line 38) must be below $30,750 (single), $46,125 (head of household), or $61,500 (married filing jointly). You can receive the credit for contributions made to almost any retirement account, including a traditional or Roth IRA, 401(k), 403(b), 457 plan, SEP IRA, or SIMPLE IRA. The maximum contribution eligible for a credit is $2,000 per person.

To calculate the tax credit you will receive credit, use the income table below to find your “multiplier”. The multipliers are .5, .2, and .1, which on a $2,000 contribution equals a maximum tax credit of $1,000, $400, or $200. The credit is “non-refundable” – which does not mean you will not get a refund – but that the credit cannot take your tax liability to less than zero.

Once you calculate your adjusted gross income for 2016, find your multiplier here:

2016 Saver’s Credit, Adjusted Gross Income

Planning Strategies

1) If you are trying to decide between a Roth or Traditional IRA (or 401(k)), remember that the Traditional IRA or 401(k) contribution will lower your Adjusted Gross Income (AGI). For example, if you are married with an AGI of $38,000, a $2,000 contribution to a Traditional IRA would lower your AGI to $36,000, making you eligible for a $1,000 credit. If you instead contribute to a Roth IRA, the credit at a $38,000 AGI would be only $400. So, be sure to calculate if contributing to a Traditional plan could enable you become eligible for a larger credit.

2) For married couples, note that the credit is per person. If you are married, filing jointly, and eligible for the credit, you would be smarter to contribute $2,000 per person rather than $4,000 from just one spouse. That way you will receive two credits.

If the second spouse is not employed, it’s okay, they can fund a spousal IRA. They do not need to have earned income of their own to have a tax deductible contribution to a Traditional IRA or to receive the credit.

3) If you are over age 70 1/2, you cannot contribute to a Traditional IRA. However, if you have earned income, you may still be eligible for the tax credit by funding a Roth IRA, a 401(k), 403(b) or other employer sponsored plan. If you are “retired” and working a part-time job, consider this: a $2,000 contribution to a Roth IRA could bring you a $200, $400, or $1,000 tax credit. And as long as you’ve had a Roth for 5 years, you can take that money out tax-free at any time.

4) If your adult children are out of school, but have an income that would qualify for the credit, consider helping them fund an IRA. Besides giving them a tax deduction and a tax credit, it can be a valuable introduction and education to the importance of saving, investing, starting retirement planning early.

IRS website: 2015 and 2016 Retirement Savings Contributions Credit