Who Else Wants Free Money and Lower Income Taxes? - Rodgers & Associates

Who Else Wants Free Money and Lower Income Taxes?

An auto mechanic often preaches the impor­tance of car mainte­nance as a teacher preaches the impor­tance of education. This concept is no different for an investment adviser, who often finds themselves engaged in discus­sions about the impor­tance of retirement planning.

At a recent holiday gathering, my 30-something, ever-so-frugal cousin said to me, “You will be happy to know that Jennifer [his wife] has stopped contributing to her 401(k).” He knew that this news definitely would not make me happy, which was made apparent by the sarcastic grin on his face. What made me even less excited was his reason – diapers. A new baby + the added expense of diapers = stop retirement saving. Far too often, I find myself in a situation where I’m practi­cally begging my peers to think longer-term about their financial future.

Not saving is one of the biggest mistakes that can be made when talking retirement. According to Vanguard’s compre­hensive How America Saves 2020 report, only 44% of those under 25 are making voluntary contri­bu­tions to their employer- sponsored plan. Individuals 25–34 years old contribute to plans at a rate of 68%. I under­stand that my peer group is comprised of a gener­ation burdened by student loan debt, where it’s far easier to focus on the present rather than the future; however, there are immediate benefits to partic­i­pating in an employer-sponsored plan that also need to be accounted for in the equation.

The majority of employer-sponsored plans are pre-tax. The amount you defer as a contri­bution to your plan gets deducted from gross salary and then the remaining amount is taxed at the federal level. Another tax advantage is the Saver’s Credit. This credit may be received when filing a yearly federal income tax return. Based on adjusted gross income, the credit received could poten­tially be 10%, 20%, or even 50% of your contri­bu­tions for the year to a maximum of $2,000.

The company match is free money. Not all companies match contri­bu­tions, but many do. Some are willing to match the money you contribute dollar for dollar up to a certain percent of your income. This is free money. I will say it again – free money! Not taking advantage of such a benefit is compa­rable to dumping money out of a window.

I’ve thought often about what those diapers are actually costing my cousin and his wife. Their decision has cost them both the pre-tax savings and the Saver’s Credit, which may result in them paying higher federal income taxes. Plus, let’s not forget to account for the loss of her company match (all that free money). It’s safe to say that those diapers are most likely costing them a great deal more than the extra amount they are now bringing home in her paycheck each week.

Origi­nally published February 2015