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Biden 401k Explained in 180 Seconds

Biden 401k Explained in 180 Seconds.

Posted on May 28, 2021May 28, 2021 by 401kEasy

The goal of the proposed Biden 401k is to “push down” the tax benefits of 401k participation to 80% of American workers who earn less than $175,000 in W-2 wages. Currently, these workers are receiving only 35% of the tax benefits of all 401k participants, and workers earning more than $175,000 are getting 65% of 401k tax benefits. The objective of the Biden 401k is to equalize 401k tax benefits across all income groups.

Suppose your W-2 adjusted gross income (AGI) exceeds $175,000 per year. You are in the upper 20% of all wage-earners. Under the Biden 401k, you will see a reduction in the tax-deferral benefits of your 401k contributions compared to previous years. On the other hand, if you earn less than $175,000, you will see a gradual increase in tax-deferral benefits compared to last year.

Why?

The reason is that the 401k payroll contributions you make are made with pre-tax dollars. The pre-tax contributions create a year-end tax deduction that reduces your taxable income. This 401k tax benefit is currently skewed toward higher-income families because their income tax bracket is higher, so their year-end deduction is higher.

President Biden Is proposing a way to “equalize” these 401k tax benefits across all income groups. The idea is to give lower- and middle-income workers a tax credit of 26% of their annual 40k contribution. For example, suppose you are a middle-class wage earner and contribute $8,000 to your 401k. In that case, you will be entitled to a tax credit (not a tax deduction, but a credit!) of $8,000 X .26 = $ 2,080 credit. Any knowledgeable tax adviser will confirm that taxcredits are far more valuable to you than tax deductions, which is what you get now with a 401k.

As an aside, It is anticipated that a Biden 401k would result in more high-income wage earners gravitating to Roth 401k accounts. Roth 401k  contributions are made with after-tax dollars, but like the traditional 401k, investments grow tax-deferred until used at retirement.

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