Saver's Credit for Retirement Savings Contributions

Taxes are probably the furthest thing from your mind. But now, months before the end of the year and the start of tax season, is a good time to takes steps to lower your tax bill for 2008.

Take the “Saver’s Credit” for example.

One way for low and moderate income Americans to save on taxes is by saving for retirement. If you make voluntary contributions to an employer-sponsored retirement plan or to an individual retirement arrangement, you may be able to take a tax credit.

Formally known as the “Retirement Savings Contributions Credit,” the Saver’s Credit applies to:

Married individuals filing separately and single with incomes up to $26,500 for 2008
Married couples, filing jointly, with incomes up to $53,000 for 2008
Head of Household with incomes up to $39,750 for 2008

To be eligible for the credit you must be at least age 18, not be a full-time student, and cannot be claimed as a dependent on another person’s return. You may be able to take a credit of up to $1,000 (up to $2,000 if filing jointly) if you make eligible contributions to a qualified IRA, 401(k) and certain other retirement plans. The amount of the credit is determined by your filing status, your adjusted gross income, and your other retirement contributions.

The credit is a percentage of the qualifying contribution amount, with the highest rate for taxpayers with the least income.

When figuring this credit, you generally must subtract the amount of distributions you have received from your retirement plans from the contributions you have made. This rule applies for distributions starting two years before the year the credit is claimed and ending with the filing deadline for that tax return.

The Savers Credit is in addition to other tax benefits which may result from the retirement contributions. For example, most workers at these income levels may deduct all or part of their contributions to a traditional IRA. Contributions to a regular 401(k) plan are not subject to income tax until withdrawn from the plan.

For more information, review IRS Publication 590, Individual Retirement Arrangements and Form 8880, Credit for Qualified Retirement Savings Contributions which include the instructions. The publication and form can be downloaded at IRS.gov or ordered by calling 800-TAX-FORM (800-829-3676).

Remember that for the genuine IRS Web site be sure to use .gov. Don't be confused by internet sites that end in .com, .net, .org or other designations instead of .gov. The address of the official IRS governmental Web site is http://www.irs.gov/.

Additional resources:

Publication 590, Individual Retirement Arrangements (PDF 1401.9K)
Form 8880, Credit for Qualified Retirement Savings Contributions (PDF 273.8K)

Does Your Retirement Fund Look Shaky?

Feeling shaky about your retirement future? Count yourself part of a large, jumpy crowd. Only a quarter (27 percent) of people age 40 and older are very confident that they and their spouse will have enough money to live comfortably throughout retirement. A whopping three-quarters of us are struggling on a day-to-day basis to scare up enough resources to fund even a modest level of comfort.

A solid retirement is based on four parts: Social Security, pension benefits and personal savings, earnings from work past the traditional retirement age and health care benefits.

Credited with keeping nearly on-half of older Americans out of poverty, Social Security remain our most valuable and reliable source of retirement income. Those benefits alone, however, cannot provide years free of financial worries.

The other two sources of retirement income - pension and savings - have deteriorated, while spiraling costs threaten the stability of retiree health plans and the solvency of Medicare and Medicaid.

Traditional employer-based pension plans are down sharply, with only one in five American workers looking forward to a regular retirement check. Folks on the job are more likely to be offered the opportunity to save in an employee-sponsored 401(k) plan or a similar vehicle based on voluntary participation. But half of all private-sector employees either don't have access to that solution or aren't using it.

Personal savings are headed the same way. More than half of workers who have saved for retirement have put away less than $25,000. With national personal savings hovering around half of a percent of income, we are not saving enough.

Why don't we save more? Because it's too hard and because we have too much debt.

Tax Help - A Little Planning Goes A Long Way!

Tax Planning Strategies for Retirees

A little planning ahead can go a long way to keeping your taxes as low as possible in retirement. In order to plan ahead properly, you'll need to understand how your retirement income will be taxed. Based on that, you can choose the right strategies to keep your tax bill as low as possible.

How Retirement Income is Taxed

Retirees often receive income from a variety of sources, including Social Security benefits, and distributions from pensions, annuities, IRAs and other retirement plans. We'll take a quick look at how income from various retirement plans are taxed, and then look at basic tax strategies.

Social Security Benefits

Your Social Security benefits may be completely tax-free or partially tax-free, depending on your total income.

Figuring out how much of your benefits will be included as taxable income involves some math.

For planning purposes, you should have an idea of whether your retirement income will cause some of your Social Security benefits to be taxed.

Pension and Annuity Income

Your pension or annuity may be fully or partially taxable. If all contributions to the pension were tax-deferred, then your distribution will be fully taxable. If you contributed some after-tax dollars to fund your plan, then you have some cost basis in the plan contract. Part of your distributions will be a tax-free recovery of your cost basis, and the remainder will be taxable income. Publication 575, Pension and Annuity Income, provides comprehensive information about figuring the taxable amount.

Pension and annuity income is reported to you using Form 1099-R. Your plan administrator should calculate the taxable portion of your pension distribution. For planning purposes, you will want to contact your plan administrator to find out what your pension payments will be, and what part of the payments will be considered taxable income.

401(k) Distributions

Distributions from your employer's 401(k) plan are fully taxable since the contributions excluded from your taxable income. Distributions from Roth 401(k) accounts are treated the same as Roth IRA distributions.

IRA Distributions

Distributions from your individual retirement account may be fully taxable, partially taxable, or completely tax-free depending on the type of IRA you have.

If you have a deductible Traditional IRA, your distributions will be fully taxable. You contributed funds using tax-deductible dollars, and tax is deferred on both the contributions and the earnings until they are withdrawn.

If you have any basis in a non-deductible Traditional IRA, your distributions will be partially taxable. A portion of your distribution represents a return of your non-deductible investment, and that portion is recovered tax-free.

Distributions from Roth IRAs are completely tax free as long as you meet two basic requirements. Your first Roth IRA contribution was made at least five years prior to any distribution, and the funds are distributed after you reach age 59 and a half. (For more information, see Are Roth Distributions Taxable? in Publication 590.

Required Minimum Distributions

Taxpayers must begin withdrawing funds from their 401(k) and Traditional IRA plans once the taxpayer reaches age 70 and a half. Distributions must start "by April 1 of the year following the year in which you reach age 70½," which is called the required beginning date. For more information, see When Must You Withdraw Assets? in Publication 590.

Roth IRAs and designated Roth 401(k) accounts are not subject to the minimum required distribution rules.

The minimum amount that must be distributed is your account balance divided by the life expectancy figures published by the IRS in Publication 590. You can use Web-based calculators to estimate your minimum distribution, such as this RMD calculator from accounting publisher CCH.

Plan to withdraw at least the minimum amount required from your IRA and 401(k) accounts.

Tax Strategies

Retirees have more control over their tax situation, since they can decide how much they need to withdraw from various retirement plans. Retirees can keep their taxes as low as possible by using these time-tested strategies.

Taking full advantage of the standard deduction or itemized deductions and personal exemptions. Together, your standard deduction or itemized deductions and your personal exemptions represents how much income will be tax-free. Retirees can coordinate taxable distributions with their mortgage payments, real estate taxes, and medical expenses.
Accelerate retirement distributions when you have excess deductions. If your standard deduction will exceed your taxable income, consider withdrawing more retirement funds than you need. By accelerating income when you have a zero or low tax rates, you'll avoid potentially paying more taxes in a future year.

Plan to take the Credit for the Elderly. There's a special tax credit for taxpayers age 65 or older. But qualifying for the credit takes careful planning. Your adjusted gross income fall beneath certain limits.

Maximize tax-free income. Taxpayers can exclude up to $250,000 in capital gains from selling a main home (up to $500,000 if married). Also, interest earned from municipal bonds is exempt from tax.

Defer retirement plan distributions until needed. Keeping your taxable distributions to a minimum will push more income to future tax years.

Social Security Benefits

Taxable Portion of Social Security

Social Security benefits may be non-taxable or partially taxable, depending on your total income from other sources. Use the "Social Security Benefits Worksheet" in the Instructions for Form 1040 (PDF), page 28, to calculate your taxable amount. Social Security benefits are reported on Form 1040 Line 20 or Form 1040A Line 14.

Social Security is Only Source of Income

"If the only income you received during the tax year was your social security or equivalent railroad retirement benefits, your benefits are probably not taxable and you probably will not have to file a tax return," according to the IRS.

Social Security benefits are taxed depending on your total income from all sources.

Here's how to calculate how much of your Social Security benefits is taxable.
Provisional IncomeProvisional income is your total worldwide income, including tax-exempt income, plus half of your Social Security benefits.

Taxable Social Security Benefits

If your provisional income is below the base amounts for your filing status, then your Social Security benefits are completely non-taxable.

If you provisional income is between the base amount and the additional amount, then half of your Social Security benefits over the base amount are taxable.

If your provisional income is over the additional amount, then 85% of your Social Security benefits over the additional amount plus $4,500 (or $6,000 if Married Filing Jointly) are taxable.

The taxable portion of your Social Security benefits cannot exceed 85% of your total benefits.

Essential Tax Resources

You may need to rely on the following information from the IRS regarding the tax treatment of your Social Security Benefits:

Social Security and Equivalent Railroad Retirement Benefits (Tax Topic 423)

Social Security and Equivalent Railroad Retirement Benefits (Publication 915)

Tax Debt Help - Strategies for Your Investments

Five strategies to bring in the New Year.

Your investment and tax planning should go hand in hand. The time is now to review your financial situation and make needed adjustments that can help save you money at tax time. Here are a few year-end tax-smart investment tips to consider:

1. Review your portfolio.

See if it is time to trim some non-performing investments and rebalance.

Do you have any capital losses carried forward from your 2005 income tax return?

Capital losses can offset capital gains to reduce your tax bill. If you have a gain from the sale of stock this year, you may want to consider selling other stocks that will generate a loss if they no longer fit your needs. You can claim up to $3,000 in capital losses against ordinary income on your tax return.

If you did sell stock this year, you'll need to give your tax professional the cost basis of the stock in order to determine your capital gain or loss. Your financial advisor can help you find that information.

2. Maximize your contributions to company sponsored retirement plans.

Consider contributing up to the amount that your company will match. Your contributions are made pre-tax, which reduces your adjusted gross income (AGI) and overall tax bill.
3. Make eligible IRA contributions.

You must make any eligible 2006 IRA contributions prior to April 17, 2007. The maximum contribution for both Roth and traditional IRAs is $4,000 in 2006; $5,000 if you are over age 50.

4. Take required minimum distributions.

If you are over age 70½, make sure you take the required minimum distributions from your IRA or other retirement plans by December 31, 2006.

If you don't take the required distribution, you will owe a 50 percent penalty for what you should have taken plus ordinary income tax.

If you turn age 70½ in 2006, you have until April 1, 2007 to take your first distribution.

Your financial advisor can help you determine whether 2006 or 2007 is the best year for you to take your first distribution.
5. Be aware of the alternative minimum tax (AMT).

Talk to your tax professional about preparing a year-end tax projection to determine if you might be subject to the AMT. This is especially critical if you plan to exercise stock options, which could trigger this tax.

S. Raines, Sr. Financial Advisor/Tax Preparer

Retirement Fund Early Withdrawals and the Tax Penalty

As a veteran tax preparer, I have found that there are lots of reasons why folks don't file returns. But one of the biggest reasons is the early withdrawal of retirement funds. Most of the time they don't elect to have federal tax withheld. Then when it comes time to file and that 1099-R arrives in the mail, fear overwhelms them. Now they're facing not only the federal withholding, but also the 10% penalty for early withdrawal.

Below is some detailed information which I found at William Perez's website at About.com which gives the best overview of early withdrawals that I have found on the web. Take a few minutes to see just how overwhelming these withdrawals can be to your tax liability.

If you withdraw money from a traditional individual retirement account (IRA), 401(k), 403(b), or other qualified retirement plan before you turn age 59 1/2, you may be subject to an early distribution penalty of 10%. There are exceptions. This penalty does not apply to Roth IRAs as long as it has been at least five years since you first opened up your Roth account. Here's what you need to know about the early distribution tax.

The additional tax on an early distribution is 10% of the taxable amount. The taxable amount is also included in your taxable income. This 10% tax is in addition to regular income taxes. I call this the early withdrawal tax penalty, because it is similar to the penalty banks charge when you liquidate a savings account early. You can avoid this additional tax penalty if you meet certain criteria, but you cannot avoid including your retirement withdrawal from your taxable income.

So you will want to consider the tax impact before you tap your retirement accounts for short-term financial emergencies.

If you withdrew money from a SIMPLE IRA and you first began participating in a SIMPLE IRA plan within the past two years, then your early distribution penalty is 25% instead of 10%. You figure the additional tax either directly on Form 1040 line 59, or on Form 5329 (PDF) and Instructions for Form 5329 (PDF). You calculate the additional tax penalty directly on Form 5329 if you meet one of the exceptions and the retirement plan did not report the exception on Form 1099-R box 7.

To calculate the additional tax penalty directly on Form 1040 line 59, you:

1. Look on Form 1099-R from your retirement plan.
2. Find the figure in boxes 1 (Gross Distribution) and 2a (Taxable Amount), and the code in box 7 (Distribution Codes).
3. Multiply the amount in box 2a by 0.10.
4. Report this amount on Form 1040 Line 60.
5. Write "No" on the dotted lines next to line 59 to inform the IRS that you do not need to attach Form 5329.

Exceptions to the Early Distribution Tax Penalties

You do not have to pay the additional 10% tax penalty on your early retirement distribution if you certain exceptions. Exceptions for Early Distributions from an IRA:

1. You had a "direct rollover" to your new retirement account,
2. You received a lump-sum payment but rolled over the money to a qualified
   retirement account within 60 days,
3. You were permanently or totally disabled,
4. You were unemployed and paid for health insurance premiums,
5. You paid for college expenses for yourself or a dependent,
6. You bought a house*,
7. You paid for medical expenses exceeding 7.5% of your adjusted gross income**, or
8. The IRS levied your retirement account to pay off tax debts.

Exceptions for Early Distributions from a Qualified Retirement Plan such as a 401(k) or 403(b) plan:

1. Distributions upon the death or disability of the plan participant.
2. You were age 55 or over and you retired or left your job.
3. You received the distribution as part of "substantially equal payments" over your
   lifetime.
4. You paid for medical expenses exceeding 7.5% of your adjusted gross income.**
5. The distributions were required by a divorce decree or separation agreement
   ("qualified domestic relations court order"),

* The home-buying exception has the following additional criteria: you did not own a home in the previous two-years, and only $10,0000 of the retirement distribution qualifies to avoid the tax penalty. ** You do not need to itemize in order to claim the medical expense exception. If the exception is properly coded in box 7 of your 1099-R form, you do not need to fill out Form 5329. If an exception applies and is not recorded in box 7, then you need to fill out Form 5329.

1099-R Box 7 Distribution Codes

The following is a list of distribution codes that may appear in box 7 for Form 1099-R to report distributions from a retirement account. This list is taken from (PDF), pages 9 and 10. Distribution Codes for 1099-R Box 7

Distribution Code	Description
1	Early distribution, no known exception
2	Early distribution, exception applies
3	Disability
4	Death
5	Prohibited transaction
6	Section 1035 exchange
7	Normal distribution
8	Excess contribution
9	Cost of life insurance protection
A	May be eligible for 10-year tax option
D	Excess contribution
E	Excess annual additions
F	Charitable gift annuity
G	Direct rollover
J	Early distribution from Roth IRA
L	Loans treated as deemed distributions
N	Recharacterized IRA contribution
P	Excess contribution
Q	Qualified distribution from a Roth IRA
R	Recharacterized IRA contribution
S	Early distribution from a SIMPLE IRA in the first two years, no known exception
T	Roth IRA distribution, exception applies

Figuring the Additional Tax Penalty on Form 5329

You calculate the additional tax on early withdrawals from a retirement account using Form 5329 (PDF) lines 1 through 4.

Line 1: Report the taxable distribution from box 2a of Form 1099-R.

Line 2: Enter the amount not subject to the additional tax because an exception applies. Enter the appropriate exception code.

Line 3: Subtract line 2 from line 1. This is the amount of retirement distributions that are subject to the additional tax.

Line 4: Multiply the figure on line 3 by 0.10. Also enter this amount on Form 1040 line 60. If the distribution was from a SIMPLE IRA, the penalty may be 25% instead of 10%. The 25% penalty applies if you began participating in a SIMPLE IRA account within the past two years. Multiply the amount on Line 3 by 0.25 instead.

Exception Codes for Form 5329 Line 2

The following exception codes are to be used for Form 5329 Line 2 to inform the IRS that part or all of your retirement withdrawal is not subject to the early withdrawal tax penalty. The following exception codes are found in Instructions for Form 5329 (PDF), pages 2 and 3.

01: Separation from service after reaching age 55.

02: Distributions are paid as part of a series of substantially equal periodic payments.

03: Distributions due to permanent and total disability.

04: Distributions due to death.

05: Distributions to pay for medical expenses exceeding 7.5% of adjusted gross income.

06: Distributions to another person under a qualified domestic relations court order.

07: Distributions to pay for health insurance premiums and you were unemployed.

08: Distributions to pay for college expenses.

09: Distributions to pay for a first-time home purchase, up to $10,000.

10: Distributions due to an IRS levy.

11: Other. Use this code if more than one exception applies and see IRS Instructions page 3.

S. Raines, Sr. Financial Advisor/Tax Preparer