Singing the praises of tax-favored retirement savings
Saturday, December 21, 2013
Welcome Winter Solstice! We Northern Hemisphere residents are glad you're here because after this shortest day of the year (and the accompanying longest night of 2013), we'll start getting a bit more sunlight every day for the next six or so months.
The incrementally longer days, however, won't do much to warm us up in the short term.
Winter, which officially begins today, Dec. 21, will continue to have most of North America in its cold clutches for a while.
All this climatological data makes for an obvious choice for today's 10th Christmas Tax Tips Tune. It's Mele Kalikimaka.
OK, I'm a Christmas traditionalist. But I also find myself wishing a little more every December for the cold to hurry up and be done!
So as I'm listening to Der Bingle and the Andrews Sisters harmonize on the alternately named Hawaiian Christmas Song, I'm fondly remembering some warmer Dec. 25ths. There was that end-of-year trip to Saint Maarten as a break from Maryland's year-end chill and the six Decembers we lived in South Florida.
I'm also thinking that retirement in a tropical clime, say America's 50th state, might be nice.
Of course, that naturally leads to this tropical Christmas classic's tax connection, all the help Uncle Sam offers retirement savers via the tax code.
Individual retirement accounts: Almost every person who earns money can contribute to an individual retirement account, or IRA. The big question is which version, a traditional IRA or a Roth IRA.
The IRA has a handy chart to help you compare the two types of IRAs.
The difference that most captures our attention is that your contributions are made on money on which you've already been taxed, but that means that cash and its earnings are not taxed when you take Roth distributions in retirement.
A traditional IRA, on the other hand, might provide you with an immediate deduction on your taxes. But when you tax money out -- and as the Grandma Got Run Over by a Reindeer tax tip tune notes, you'll have to start doing so as required minimum distributions (RMDs) when you turn 70½ -- you'll owe taxes on the withdrawals at your ordinary income tax rate.
Whichever IRA works better for you, open it and start contributing the maximum allowed each year. For both 2013 and 2014, that's $5,500 or $6,500 if you're age 50 or older.
Yes, you don't have to put your current tax year's contribution into your IRA, traditional or Roth, until the tax filing deadline, usually April 15, in the coming year. But by waiting, you lose three and a half months of earnings compounding.
So get started with your IRA ASAP.
Workplace retirement accounts: Even if you have an IRA, if your employer offers a 401(k) or similar plan -- such as a 403(b) or 457 plan; all get their names from the section of the Internal Revenue Code under which they are governed -- you should enroll.
These defined-contribution plans, which mean that you as the participating employee contribute to your retirement account. Your company also may contribute to your account. Many do match worker contributions up to a certain percentage. If you can, you should put in at least the percentage that your boss will match.
If you can afford it, though, 401(k)s allow you to put away much more than IRAs. For 2013 and 2014, the employee contribution limit for defined contribution plans is $17,500.
The tax benefit of a traditional 401(k) plan is that your contributions are made directly from your pay before federal and state income taxes are figured. That results in you handing over a little less to the tax collector. But like traditional IRAs, traditional 401(k)s are subject to the RMD rules.
Some companies offer Roth 401(k)s. Like the IRA counterpart, money here is contributed after taxes are taken out, but the distributions in retirement are tax-free.
Entrepreneurs, too: If you work for yourself, you also have several tax-favored self-employment retirement plan options. They include solo 401(k)s, SEP-IRAs, SIMPLE IRAs and Keoghs, which also are known as HR 10 plans.
You can open and contribute to a self-employment retirement plan when your job is your main wage source or just a side enterprise you have in addition to your regular employment.
Savers retirement credit: Some individuals who contribute to retirement plans can get an extra tax break.
The Saver's Credit, also referred to at the Retirement Savings Contribution Credit, helps low- and moderate-income workers offset some of the money they contribute to IRAs and 401(k) plans and similar workplace accounts.
A combined $2,000 from all those accounts can qualify for the credit, which is a percentage -- 50, 20 or 10 percent -- of the retirement contribution amount based on your income and filing status. The IRS table below breaks out the 2013 credit amounts:
|2013 Saver's Credit|
|Credit Rate||Married Filing Jointly||Head of Household||All Other Filers (single, married filing separately, qualifying widow or widower)|
|50% of your contribution||AGI not more than $35,500||AGI not more than $26,625||AGI not more than $17,750|
|20% of your contribution||$35,501 - $38,500||$26,626 - $28,875||$17,751 - $19,250|
|10% of your contribution||$38,501-$59,000||$28,876 - $44,250||$19,251 - $29,500|
|0% of your contribution||more than $59,000||more than $44,250||more than $29,500|
To claim the Saver's Credit, you'll have to fill out Form 8880 and then enter the info on your Form 1040 or 1040A.
If you qualify for the credit but haven't reached the $2,000 maximum contribution amount used to calculate the credit, your IRA contribution as late as April 15, 2014, can count toward the Saver's Credit.
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