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Previously, we chatted about the power of tax deductions and credits. Today, I have another tax credit to share with you: the Retirement Savings Contributions Credit, or what is also referred to as the Low Income Savers Credit. Don’t let the boring name fool you, this one packs a sweet little punch for dedicated savers who are just starting out in their career or aren’t yet pulling in a bigger salary. If you contribute to a qualified retirement savings plan and your AGI or adjusted gross income is lower than the allowable limits, you may be eligible for a tax credit worth up to $1,000 ($2,000 if filing jointly)!

Here’s the nutshell. The government wants to encourage Americans to save for retirement. To provide an incentive for those who have the least disposable income to part with, they offer this credit, or dollar for dollar reduction in your taxes owed. The tax credit is based on a percentage (ranging from 10% to 50%) of up to $2,000 of your contributions (or deposits) to a retirement saving plan such as a traditional or Roth IRA, governmental 457(b), regular or Roth 403(b), 401(k), SIMPLE IRA, SIMPLE 401(k), or SARSEP. The lower your income is the higher the potential credit, up to the 50% maximum (see table below). However, this credit is not refundable. What that means is that to take advantage of the credit, you actually have to owe taxes in a given year, which can then be offset by any allowable credit amount.

For 2010, the table looks like this:

50% credit - AGI range: <$33,500 (Married/Joint Filers); <$25,125 (Head of Household); <$16,750 (Single Filer)

20% credit - AGI range: $33,501 to $36,000 (M/JF); $25,126 to $27,000 (HOH); $16,751 to $18,000 (SF)

10% credit - AGI range: $36,001 to $55,500 (M/JF); $27,001 to $41,625 (HOH); $18,001 to $27,750 (SF)

An example may help. For illustrative purposes only, let’s say I’m an education professional with an adjusted gross income (AGI) of $26,000 and I contribute $2,500 to my supplemental employer sponsored 457 plan. First, any credit available to me will only be based on $2,000 of my $2,500 contribution. The percentage of the credit (see table) would then depend upon my AGI and tax filing status: 50% of $2,000, or $1,000 for married filing jointly; 20% of $2,000, or $400 for head of household; and 10% of $2,000, or $200 as a single filer. Now, if I owe $800 in taxes this year, I can use only $800 of the credit if my filing status is M/FJ. Remember, the credit can only offset actual taxes owed; the unused $200 is not refundable. Whereas, I could use the entire allowable credit in the other filing categories: $400 HOH, or $200 SF. In this case, that’s a tax savings of 25% to 100%!

For more information on this credit, refer to IRS Form 8880 or talk with your tax professional.

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