For many taxpayers the idea of investing in a tax shelter sounds like a quick trip to an IRS audit – or worse. But this tax shelter, of sorts, is one the IRS wants you to use to slash your income tax bill.
If you are employed and investing in a 401(k) you are participating in an IRS approved tax shelter – and – retirement savings plan. If you are like most folks you are paying more in income taxes than you want, but putting less in your 401(k) than you are allowed. You can cut your taxes and pump up your retirement at the same time.
Many employees are unaware that they can direct far more into their 401(k)s than they are currently. Many believe they are ‘maxing out’ their contributions because they are putting in the highest amount their employers will match. It is common for an employer to match the employee’s contributions up to a percentage limit – 50% up to 7% for example. In this case if the employee’s salary is $70,000, they invest 7% of that salary ($4,900) in their 401(k) and their employer matches 50% ($2,450). This is very nice, indeed.
However, the 401(k) plan rules allow an employee age 49 or younger to invest up to $19,000 in their plan. Employees 50 or older can invest up to $25,000 in their plan. And, if they choose, they can receive a tax deduction for every dollar. In our example, this employee can invest an additional $14,100 to $20,100 a year. If they find themselves in the mythical 20% bracket they would save an additional $2,800 to as much as $4,000 in federal income taxes.
If this is all good news for you, you have until Dec. 31 to increase your contributions to your 401(k). Each plan has their own rules as to how best to get more funds into your plan so check with your plan administrator and/or your HR department for precise instructions.