Saver’s Credit is an important tax credit directly targeted at promoting qualified retirement savings to low- to middle-income Americans. Eligible households can build their nest eggs for their retirement with some help from federal government.
The Saver’s Credit was originally passed into law as part of the Economic Growth and Tax Relief Reconciliation Act of 2001—but with a sunset provision that would make it expire at the end of 2006. On August 17, 2006, President Bush signed the Pension Protection Act of 2006, and the Saver’s Credit was among the many important pension-related provisions of the Economic Growth and Tax Relief Reconciliation Act that were made permanent
Data from the IRS1 indicates that the Saver’s Credit was claimed on about five million tax returns, representing only about 4% of all tax returns filed each year between 2002 and 2005. With the relatively low rate of households claiming the credit, it seems that there may be a lack of awareness about the Saver’s Credit. Given the substantial participation rate in employer-sponsored retirement plans, such as 401(k) plans, many eligible individuals and households may be missing out on this tax credit. And those individuals and households who are not saving for retirement may be unaware that they could benefit from the Saver’s Credit if they do so.
Several possible sources of confusion around the Saver’s Credit exist, including:
- The 1040EZ form, the tax form commonly used by low-to-middle income taxpayers, does not provide for the Saver’s Credit. Forms 1040, 1040A, or 1040NR—along with Form 8880—must be used.
- The IRS uses the term “Retirement Savings Contributions Credit” (versus Saver’s Credit) in its publications.
- The Saver’s Credit is non refundable and may only be applied towards the federal income taxes owed in a given year. If an individual or household has no tax liability, then the Saver’s Credit would not be treated by the IRS as a refund.
- Taxpayers who prepare their taxes manually versus using tax preparation software or a professional tax preparer may find claiming the Saver’s Credit to be complicated.
Who is eligible for the Saver’s Credit?
For singles, anyone earning $25,000 or less is eligible. For the head of a household, the income limit is $37,500. For those who are married and file a joint return, the income limit is $50,000.
Additionally, the taxpayer must be 18 years or older by the end of the tax year and cannot be a full-time student or be claimed as a dependent on another person’s tax return.
Depending on filing status and income level, taxpayers may qualify for a credit of up to $1,000 annually (up to $2,000 if filing jointly) when making eligible contributions to a qualified retirement plan, such as a 401(k), 403(b) or 457 plan, or a traditional individual retirement account (“IRA”). After 2006, the limits are scheduled to increase annually in $500 increments to allow for inflation. If you fit within these parameters, the Saver’s Credit may be for you.
It should be repeated that the Saver’s Credit is non refundable and may only be applied towards the federal income taxes owed in a given year. If an individual or household has no tax liability, then the Saver’s Credit would not be treated by the IRS as a refund.
What benefits can be realized?
In general, for every dollar contributed to a qualified retirement plan or traditional IRA, up to the lesser of the limits permitted by your plan or the IRS, taxpayers can defer that amount from their current overall taxable income to lower their federal income taxes. At the end of the year, when they prepare their federal tax returns, they may claim the Saver’s Credit by subtracting the applicable tax credit from the federal income taxes owed. The taxpayer may be eligible for one of the following credit rate: 50%, 20% or 10%.
| Taxpayer Adjusted Gross Income |
Credit Rate |
| Married filing jointly |
Head of household |
Single & married
filing separately |
% of contribution |
$0 - $30,000 |
$0 - $22,500 |
$0 - $15,000 |
50% |
$30,001 - $32,500 |
$22,501 - $24,375 |
$15,001 - $16,250 |
20% |
$32,501 - $50,000 |
$24,376 - $37,500 |
$16,251 - $25,000 |
10% |
Over $50,000 |
Over $37,500 |
Over $25,000 |
0% |
The Saver’s Credit can be viewed as a government “matching contribution” for eligible individuals and households to help offset the impact of saving for retirement. Furthermore, individuals and households who have access to a company-sponsored retirement plan and are not currently participating may also be missing out on an employer match. By missing out on the Saver’s Credit and employer match, the cost of not saving for retirement may be far greater than many people might think.
Consider this example:
John and Jane Smith are married, and they prepare their taxes as “Married Filing Jointly.” John’s salary is $20,000 per year. Jane receives a salary of $15,000 per year. John’s employer has a 401(k) plan with a 100% matching contribution on up to 3% of the employee’s annual salary. John contributes 5% of his salary to the 401(k) plan. Jane’s company does not offer a qualified retirement plan, so she contributes $2,000 into her Traditional IRA account. The adjusted gross income (“AGI”) is $29,000 (including deductions) in the Smith household. Given the scenario, let’s look at some numbers to see the benefits that the Smith household may receive:
John’s 401(k) Contribution: 5% x $20,000 = $1,000
Jane’s IRA Contribution: $2,000
Benefits of Saving
Saver’s Credit: 50% x $1,000 = $500 (John’s portion)
John’s Employer Match: 100% x 3% x $20,000 = $600
Saver’s Credit: 50% x $2,000= $1,000 (Jane’s portion)
The total benefits the Smith household may receive = $2,100 (assuming they have enough tax liability for the year).
By saving $3,000, John Smith’s family benefits by an additional $2,100 ($1,500 from the combined tax credit, plus $600 in matching contributions).
Please note: The calculations above are simplified and are for illustration purposes only.
How to Take Advantage of the Saver’s Credit
- Determine if the AGI is within the income limit (line 8 of Form 8880) and determine corresponding credit rate (line 9 of Form 8880).
- Contribute to an employer-sponsored retirement plan or an IRA account.
- If a professional tax preparer is used, be sure to ask about the Saver’s Credit.
- If tax preparation software is used to prepare the tax return, make sure Form 8880 is included in the tax documents. Use Form 1040A, Form 1040 or Form 1040NR to prepare the tax return as the credit is not available with Form 1040EZ.
- If the tax return is prepared by hand, complete the form to determine the exact credit rate and amount. Be sure to enter the retirement saving amount on Form 8880, Credit for Qualified Retirement Savings Contributions. Complete the form to determine the exact credit rate and amount. Then transfer the amount to the designated line on Form 1040A, Form 1040 or 1040NR.
- For more information, see IRS publication 590 or ask a tax professional.
Employers Can Help Get the Word Out
Employers with qualified retirement plans can help increase the awareness of the Saver’s Credit by providing information offered by their retirement plan provider or other sources. Furthermore, as many employers start to use the automatic enrollment feature in their retirement plan, low- to middle-income employees may be saving for retirement but not know that they may qualify for the Saver’s Credit. Information about the Saver’s Credit should be part of educational messages for automatically enrolled employees.
It is important to remember that the most critical step toward taking advantage of the Saver’s Credit is participating in a retirement plan. With Uncle Sam’s help, low- to middle-income workers could save on taxes and start pursuing their retirement goals.
1 Source: Patrick Purcell, “The Retirement Savings Tax Credit: A Fact Sheet,” CRS Report for Congress, updated August 7, 2006.
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