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re: Can someone explain the highly compensated employee 401k rule
Posted on 6/30/15 at 7:42 am to Jabstep
Posted on 6/30/15 at 7:42 am to Jabstep
The tax advantages of saving in a 401k aren't really seen by the lower income segments of the population.
For example, consider the two following people who make IDENTICAL contributions and will make IDENTICAL withdrawals from a 401k
1) Married single income earns $65k/year
2) Single earns $210k/year
If both 1) & 2) make identical $15k contributions every year to a 401k here is the tax savings
TAX SAVINGS on $15k contribution
1) ~15% Fed + ~5% State = approx $3000
2) ~33% Fed + ~5% State = approx $5700
So despite both people making the same great decision to save for retirement, and both people saving the exact same amount, one person gets an absurd amount of benefit more than the other. Considering everything else is equal, there is never a point where these savings become equal as withdrawals are taxed identically. One of the few instances where "I'm not rich enough to get a tax break" is actually legit
The HCE test is designed to encourage employers to make their plans attractive to lower income employees. Typically they have to do that by adding money from the employers end rather than asking the employee to take away from their wages with things like safe harbour contributions, good matching programs + auto enrollment.
For example, consider the two following people who make IDENTICAL contributions and will make IDENTICAL withdrawals from a 401k
1) Married single income earns $65k/year
2) Single earns $210k/year
If both 1) & 2) make identical $15k contributions every year to a 401k here is the tax savings
TAX SAVINGS on $15k contribution
1) ~15% Fed + ~5% State = approx $3000
2) ~33% Fed + ~5% State = approx $5700
So despite both people making the same great decision to save for retirement, and both people saving the exact same amount, one person gets an absurd amount of benefit more than the other. Considering everything else is equal, there is never a point where these savings become equal as withdrawals are taxed identically. One of the few instances where "I'm not rich enough to get a tax break" is actually legit
The HCE test is designed to encourage employers to make their plans attractive to lower income employees. Typically they have to do that by adding money from the employers end rather than asking the employee to take away from their wages with things like safe harbour contributions, good matching programs + auto enrollment.
This post was edited on 7/1/15 at 6:50 am
Posted on 6/30/15 at 8:02 am to GenesChin
quote:I agree with everything you're saying, but it doesn't always help or work. My Fiance's company matches 100% up to 6% total salary, and she's still limited. I'm not sure they do auto enrollment though.
The HCE test is designed to encourage employers to make their plans attractive to lower income employees. Typically they have to do that by adding money from the employers end rather than asking the employee to take away from their wages with things like safe harbour contributions, good matching programs + auto enrollment.
I'm okay with the system, but it's not perfect. There are circumstances where there's nothing you can do to make low-middle income people save in their 401k.
Posted on 6/30/15 at 12:58 pm to GenesChin
quote:
TAX SAVINGS on $15k contribution
1) ~15% Fed + ~5% State = approx $3000
2) ~33% Fed + ~5% State = approx $9300
Is there a math error here?
Doesn't the #2 earner only save 38% of 15k?
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