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Understanding Pre-Tax Payroll Deductions
written by: Michelle Meister
Some of us clip coupons, others recycle or carpool to save a buck. However, when it comes to our paycheck, most of us are willing to accept it’s taxation before considering ways to save. One of the best and most efficient ways to significantly save on taxes and increase your spendable income is by taking advantage of pre-tax benefits.
What exactly are Pre-Tax Payroll Deductions?
In a nutshell, pre-tax deductions allow you to pay for certain expenses through deductions taken from your pay before taxes are taken out. Those pre-tax deductions decrease the amount of taxable wages you owe taxes on, and in turn increases your take home pay.
What Kind of Pre-Tax Payroll Deductions are available?
- Retirement savings - Contributions to any retirement savings such as a 401(k) plan, a Roth IRA, a 403(b) plan or a Government Thrift Savings Plan are deducted from an employee’s gross earnings prior to any taxation. Every dollar placed into one of these retirement savings plans reduces an individual’s taxable income by an equal amount. However, there are limits: the maximum employee contribution level for 2014 is $17,500 or the maximum amount established by your employer, whichever is less. Finally, for employees over age 50, there is an additional allowance of $5,500 per year considered as a “catch-up” contribution.
- Employer matching of retirement savings - As an incentive for employees to save, employers may offer to match employee retirement savings dollar for dollar to a certain amount. Matching employer contributions, however, also have limits that may change from year to year. An employee does not pay taxes on employer matches to his or her retirement savings account.
- Employer high deductible health plans and health savings accounts - If your company offers the combination of a high deductible health plan along with a pre-tax health savings account, an employee may be able to save pre-tax dollars to pay for services and benefits that a high deductible health plan fails to cover. If your business doesn’t offer this option to employees as a group, they can still arrange for a personal health savings account although it will be funded with after-tax dollars. Encourage employees to speak to your company’s human resources department for more information.
- Flexible Savings Accounts - Flexible Savings Accounts or FSAs, if your company decides to offer them, can vary as to availability and the maximum amount of annual contributions. Typically, they are used for IRS-approved medical care, procedures or supplies, or adult-care or childcare expenses. Eligible expenses should be made available in your company’s benefits manual or through your HR department.
- Group Insurance Plans - Group health insurance plans—including medical care, dental care, vision benefits, life insurance, and short and long-term disability insurance. The employee’s share of the premiums would be deducted out of their pre-tax wages.
We all would like to bring home more money. Unfortunately, we all have to pay the tax man. However, pre-tax payroll deductions allow us to reduce what we pay in taxes by lowering our taxable income and increasing our spendable income.