Saving for retirement just got a little easier, thanks to a recently reworked tax credit available to lower-income families contributing to a retirement account. Made permanent as part of the Pension Protection Act of 2006, the Credit will provide approximately $10 billion dollars in tax benefits to about 5.5 million lower-income people over the next 10 years.

In recent years policymakers and employers have increasingly shifted the responsibility of retirement planning from employers to employees, often to the determent of lower-income workers whose biggest retirement asset is a pension from their employer.

As a cost cutting measure, employers are now less likely to offer new employees pension plans which pay a retirement benefit in the form of a lifelong annuity and more likely to contribute to a defined contribution plan. Often referred to by their place in the tax code (401k, 403b, etc), these plans are more like savings accounts maintained by employers on behalf of each participating employee. “In short, this means that people have to save more in order to get by in retirement,” says Woodstock Institute’s Nathan Paufve, who recently published an analysis of the credit’s impact. This trend has been accompanied by a massive decline in personal savings rates.

The challenge to save for retirement presents an even bigger problem for low-income people, who often lack the disposable income for savings and cannot access the generous savings incentives commonly offered to middle- and upper-income workers. In 2005 alone, the federal government spent $120 billion in tax credits that mainly benefited middle- and upper-income workers––a fraction of the incentive offered by this tax credit, or any other existing savings incentive for lower-income people. But when given the opportunity and the incentive, there is strong evidence that lower-income people do save––often at extremely high rates. This new tax credit is a modest step toward increasing the savings incentives offered to lower-income households.

To qualify for the credit, a person must be 18 years old or older, can not be a full-time student, and can not be claimed as a dependent on someone else’s tax return. Additionally he/she must have an adjusted gross income in 2006 no higher than $50,000 for married filing jointly, $37,500 for head of household, and $25,000 for single or married filing separately. The maximum contribution that will be matched is $2,000 and the matching rate depends on the filer’s income and filing status. While the stated matching rate is 50 percent (i.e. a maximum of $1,000 for a $2,000 contribution), the effective after-tax matching rate can be as high as 100 percent, or even 200 percent if the employer also makes a matched contribution.

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