The Saver's Credit

Question:

What is the Saver's Credit?

Answer:

The saver's credit is contained in § 25B of the Internal Revenue Code, which was added by section 618 of the Economic Growth and Tax Relief Reconciliation Act of 2001. Beginning in 2002, and ending in 2006, employee contributions to retirement plans and IRAs are eligible for a federal income tax credit, called the "saver's credit." The credit reduces, dollar-for-dollar, a taxpayers federal income tax. The credit can be up to $2,000 per year. Married taxpayers filing jointly can each get a credit of up to $2,000. Employees claiming the credit are allowed to lower their payroll tax withholding.

The credit is available for taxpayers who:

• Are 18 or older,
• Are not a full-time student,
• Are not claimed as a dependent on someone else's return, and
• Has adjusted gross income that does not exceed:
• $50,000 if married filing jointly,
• $37,500 if head of household with a qualifying person, or
• $25,000 if single or married filing separately.

The following contributions are eligible for the credit:

• 401(k)-(including voluntary after-tax employee contributions)
• SIMPLE 401(k)
• 403(b)-(including voluntary after-tax employee contributions)
• Governmental 457 plan
• SIMPLE IRA plan
• SARSEP
• IRA
• Roth IRA

The saver's credit rate is based on the taxpayer's adjusted gross income for the taxable year for which the credit is claimed:

Adjusted Gross Income
Married filing joint	Head of household	All other filers	Credit
$0-$30,000	$0-$22,500	$0-$15,000	50% of contribution
$30,001-$32,500	$22,501-$24,375	$15,001-$16,250	20% of contribution
$32,501-$50,000	$24,376-$37,500	$16,251-$25,000	10% of contribution
Over $50,000	Over $37,500	Over $25,000	credit not available

Example 1

Single taxpayer with adjusted gross income of $15,000 is entitled to a credit equal to 50% of the contribution. A $2,000 contribution would produce the maximum tax credit of $1,000.

Example 2

Married couple files their federal income tax return jointly with a combined gross income of $34,000. If the couple each contributed $2,000 (pre-tax) to an IRA or a plan, their adjusted gross income would be reduced to $30,000. They would receive a tax credit of 50% of $4,000 or $2,000

Example 3

Single taxpayer with adjusted gross income of $18,000. A $2,000 contribution would reduce adjusted gross income to $16,000 and thus eligible for a tax credit of 20% of $2,000 or $400. However, if that individual took a distribution from a plan or IRA, their credit will be impacted two ways. Assume they took a distribution of $400. Their adjusted gross income is now $16,400 reducing their tax credit rate to 10%. That 10% will be applied to their contributions less their distribution ($2,000-$400=$1,600). The $400 distribution reduced this individuals tax credit to $160.

IRS Announcement 2001-106 provides the IRS explanation of the Savers Credit.