There are a variety of ways to save for retirement without even knowing it. Where you may feel, and see, the dollars in a savings account, your employer most likely will have some options for you that will be less obvious.
Some people do better without having to actively set aside money for a variety of reasons. Whether it’s because they can’t remember to do it or that they hate to see the numbers in their checking accounts get lower to save for something that isn’t immediately tangible; there is a reason that your employer offers benefits.
Employer benefits, such as flexible spending accounts (FSAs), health savings accounts (HSAs), and 401(k) plans, can not only be used to reduce your tax bill, but save on child care, medical bills, and, you guessed it, quietly save for retirement.
If your employer offers an FSA, you should take advantage to help pay for health and child care expenses. An FSA allows you to put aside pre-tax earnings to pay for qualified expenses which reduces your taxable income. Saving money on taxes makes your earnings go much further. Here’s how it works.
If you are in a federal tax bracket of 25 percent, that’s an instant 25 percent savings on the funds you set aside. Add on state tax and that’s another 4.63 percent. If you pay into Social Security, add another 7.65 percent. All together you would avoid paying 37.28 percent in taxes on the money you put aside for qualifying FSA payments. If you paid 37.28 percent in taxes, as above, you would have to earn $159.44 to be able to spend $100 after tax.
What You Need to Earn to Make a $100 Medical Payment
FSA Dollars Out-of-Pocket
You can generally sign up for an FSA during your company’s open enrollment period or when you get hired. Confirm which expenses are eligible with your human resources department before signing up as some things (like full day kindergarten) aren’t always covered. You can deduct up to $2,500 for medical expenses and can carry over up to $500 to the following year if you haven’t used it all. You can deduct up to $5,000 for childcare expenses, but be warned, there is no carry-over with the dependent care FSA, so calculate it carefully. Use it or lose it.
An FSA may require you to plan out your necessary expenditures and budget for the year, but the savings to you are huge. You can make the money you spend on medical costs and childcare go much further by paying with pre-tax dollars.
HSAs can be used to reduce your health insurance costs now and to save for your future health expenses in retirement. Not everyone has access to an HSA, but those that do can take advantage of tax reductions.
First, check with your human resources department to see if an HSA is available to you. If you are enrolled in a High Deductible Health Plan (HDHP), you may be eligible. An HDHP must meet several criteria in order to be HSA-eligible:
- It must have a minimum deductible of a least $1,300 for individuals and $2,600 for families.
- Annual out of pocket expenses in 2016 cannot exceed $6,550 for individuals and $13,100 for families.
- You must not be covered by other health insurance (including Medicare) and you cannot be claimed as someone’s dependent.
If these criteria are met, then you can set up an HSA to pay for your deductibles and other qualified health care expenses. Both you and your employer can make contributions to your account, so see if your employer has a contribution matching program. Your contributions are tax deductible and are “above the line” deductions to your earned income. In 2015, you can contribute $3,350 for individual plans and $6,650 ($6,750 in 2016) for family plans. Individuals who are between 55 and 65 can make an additional catch-up contribution of $1,000.
An HSA may sound similar to an FSA, but there are some important differences. As mentioned above, an FSA has “use it or lose it” provisions and only allows you to carry over $500 in the medical account to the following year. An HSA allows you to carry an unlimited amount forward so unspent contributions are never lost. An extremely important difference for anyone interested in retirement savings is that HSA account balances can even be carried into retirement years and used to pay for health care expenses including long-term care expenses in retirement.
An HSA is an important saving vehicle for anyone concerned with saving for retirement. The money you contribute to an HSA can supplement your other retirement savings and be used to pay health expenses once you retire. If you are maxing out your contributions to your 401(k) plan and have access to a HSA, you can make tax-deductible contributions now and use this money much later in your retirement years. This is an opportunity to pay your retirement health care costs with before-tax dollars.
Even if you are many years away from retirement, an HSA can provide an important safety net for you—it can also be used to pay for health care costs if you become unemployed.
Take advantage of an HSA to pay for your health costs on a pre-tax basis now, and start a savings vehicle which you can use to save for health costs in retirement, or if you become unemployed.
Many people feel that saving money in a 401(k) plan is silly because they have Social Security or a pension fund like Colorado PERA. If you think that saving additional money for retirement may be unnecessary, ask yourself the following questions:
- Do you know what your expenses will be in the future?
- Do you know how much your monthly benefit will be?
- With so many arguments about whether or not Social Security will actually be around in the future, would it hurt to create more of a cushion for you and your family?
Some might want their money now and don’t want to set it aside for an unforeseeable future. What they don’t understand is that setting a small amount aside on your gross wages doesn’t make as big of a dent in your actual paycheck as you think it might because it is a pre-tax deduction. Another thing that people might not be aware of is that your employer may have a program to match a percentage of your contribution.
- Check if your employer matches 401(k) plan contributions. If your employer has a contribution matching program, find out how it works and then make sure you take full advantage of it.
- Now is the time to look into your retirement savings plan and to make sure that you are taking full advantage of any matching dollars that are available to you. Although many employers have open enrollment periods during October and November, some allow you to make changes to your contribution anytime. This is a great opportunity to familiarize yourself with your benefits. Don’t leave matching dollars unclaimed.
- 401(k) plan contributions are most-commonly deducted from your pay before taxes and Social Security (if applicable) are taken out.*
* Distributions from your 401(k) account at retirement are generally taxed as ordinary income unless they are rolled over to another qualified plan. If you withdraw money from your 401(k) plan before you are age 59-1/2, a 10 percent early withdrawal penalty may apply.
Example: Your employer matches up to 2% of your earnings, dollar for dollar. If you contribute $100 to your 401(k) plan, their match would give you a total of $200 in your 401(k) plan. How much would you have if you just left that $100 for your paycheck? See the diagram below.
Check out some of our past posts about using employer benefits to your best advantage: