Valuable Tax Breaks on 401K Contributions


Company sponsored retirement plans have some distinct advantages over other savings programs. A few of the key benefits include company matching dollars, no income limit on contributions, and higher maximum deposits than comparable options. Those over 50 may contribute up to $24,000, with other workers capping out at $18,000 per calendar year. Compared to an IRA, which limits deposits to $6,500 for those over 50 and $5,500 for others, you have a higher probability of accumulating the needed assets for retirement with a work-based plan.   

The tax benefits offer an additional advantage, making it an attractive source for retirement investments. Most workplace programs, including 401K, 403B, and 547’s, enjoy similar tax treatment.

Lowers taxable income. One effective way to reduce your current tax bill is to actively participate in workplace retirement plans because all contributions come out of your paycheck before taxes. For example, if your annual income is $50,000 and contributes $10,000 to a 401K, you only pay taxes on $40,000 of income. It also means for every $100 you place in a retirement plan, your income only declines by $60 to $80, depending on your tax bracket. You often will not notice a significant difference in your paycheck when you raise retirement contributions by 1%, because of the pre-tax treatment of payments.  

Tax-deferred growth. There is no tax on earnings until you withdraw funds, which allows your money to grow faster. You pay ordinary income taxes when you remove funds from the account and could pay an additional 10% penalty if you withdraw money before reaching 59 ½ if you fail to meet one of the few exceptions.     

The tax benefits on 401K accounts can help you save for retirement while lowering your current tax bill. In retirement, you will pay taxes based on your retirement income which could save money for retirement.