Lower Income? Don't Pass up the Saver's Credit

In 2002, Congress passed legislation to create an income tax credit designed to encourage lower- and middle-income people to save money for retirement. The saver's credit, worth up to $1,000 a year for individuals ($2,000 for couples filing jointly), rewards people for contributing to an IRA or 401(k) plan.

Regrettably, the people most likely to benefit from the saver's credit are also those who can usually least afford to set aside money for retirement. It doesn't help that only one-quarter of people earning less than $50,000 even know the credit exists.

But if you can squeeze a few dollars out of your budget, the saver's credit is worth pursuing. Tax credits reduce the amount of income tax paid, dollar for dollar; so many low-income people can recoup the amount they contribute to retirement accounts by up to 50 percent through reduced taxes. And those whose employers match a portion of their 401(k) contributions reap even bigger rewards.

Another good selling point: Parents or grandparents who want to jumpstart their low-income kids' retirement savings can fund their IRA or 401(k) contribution, thereby making them eligible for the saver's credit even if they can't afford to contribute on their own.

Here's the nitty-gritty on the saver's credit:

The saver's credit is a "nonrefundable" tax credit, which means it reduces income taxes owed, dollar for dollar – although it won't generate a tax refund if the credit is more than the taxes you owe.

The saver's credit helps offset part of the amount you voluntarily contribute to an IRA or 401(k) plan. Your credit amount is based on your tax filing status, adjusted gross income and the amount you contribute to qualifying retirement programs. It can be claimed by:

• Married couples filing jointly with adjusted gross income (AGI) of no more than $59,000.
• Heads of households with AGI up to $44,250.
• Singles (or married filing separately) with AGI up to $29,500.

The credit rate is 10 percent, 20 percent or 50 percent of the first $2,000 you contribute ($4,000 for married couples filing jointly), depending on your AGI; the lower your AGI the higher the percentage. For example:

• Single filers with an AGI up to $17,500 receive a 50 percent credit on the first $2,000 they contribute (i.e., up to a $1,000 credit); 20 percent on AGI up to $19,250 ($200 credit); and 10 percent on AGI up to $29,500 ($100 credit). Anything over $29,500, you don't qualify.
• For joint filers the credit amount limits are: 50 percent on up to $35,500 AGI (50% X $4,000 = $2,000); 20 percent on up to $38,500 ($800); and 10 percent on up to $59,000 ($400).

Other eligibility rules:

• You must be at least age 18.
• You can't be claimed as a dependent on someone else's return.
• You can't have been a full-time student during any part of five calendar months in 2013.
• You must contribute to a 401(k) by December 31, 2013, or to an IRA by April 15, 2014.

Important Note: You cannot claim the credit using IRS Form 1040 EZ, the form many lower-income people file. To claim it, you must submit IRS Form 8880 with Form 1040, 1040A or 1040NR. It's a little extra bookkeeping, but could be worth the effort.

Saving money for the future is never easy, especially when you're struggling to pay daily bills. But if you can somehow manage to take advantage of the saver's credit now, you'll thank yourself at retirement.