Resources

Understanding the Basics

The Case for Pre-Tax Savings

Here is an example of the benefit of saving on a pre-tax basis. Suppose your gross pay (before taxes) is $1,000 per week. You decide you want to save $50 per week, and you're in a 25% federal tax bracket.

If the $50 comes out of your paycheck after taxes have been taken out, you'll have $700 left. That's $1,000 (gross pay) minus $250 (taxes) minus $50 (savings). If, on the other hand, you take out the $50 before your income is taxed, you'll have $713 left. That's $1,000 (gross pay) minus $50 (savings) minus $237 (taxes). Less of your gross pay is being taxed. That's $13 more in your pocket.

To think of it another way, by using a pre-tax savings plan, you have to earn only $50 to save $50. If you were using after-tax dollars, you would have had to earn $63 to save the same amount.

Pre-Tax Savings Costs Less

Pre-Tax

Weekly gross pay

$1,000

Savings

50

Taxes (25%)

237

Take-home pay

$ 713

After-Tax

Weekly gross pay

$1,000

Taxes (25%)

250

Savings

50

Take-home pay

$ 700

Leveraging Your Pre-Tax Contributions

If you participate in a defined-contribution plan at your company, make sure you understand your employer's role. Your employer may be making a matching contribution.

If your employer does have a matching program (it may be 25 or 50 cents on the dollar, or more, up to a certain percentage of your contribution), make sure you are contributing at least the amount needed to receive the full match.

Here's an example: Suppose you're earning $35,000 and saving 5%, or $1,750, of your salary in your 401(k) plan. Your employer matches 50% of the first 3% of your salary that you save.

The Benefit of an Employer Match

Your 5% Pre-Tax Contribution

$1,750

PLUS

Employer's Contribution

$525

(50% x (3% x $35,000))

Total Contribution

$2,275

Your employer added $525 to your savings for the year. Make sure you save at least the required percentage so you don't miss out on the matching employer contribution.

SUGGESTION: A defined-contribution plan with a company match is quite difficult to beat—even by the Roth IRA.

Share Article:
Add to GooglePlus
Investment and insurance products and services are offered through Osaic Institutions, Inc., Member FINRA/SIPC. Osaic Institutions and the bank are not affiliated. Products and services made available through Osaic Institutions are not insured by the FDIC or any other agency of the United States and are not deposits or obligations of nor guaranteed or insured by any bank or bank affiliate. These products are subject to investment risk, including the possible loss of value.

BrokerCheck