What would you do for a lower tax bill? The good news is that you may not have to do much. One of the most underutilized tax strategies is to identify and claim tax credits. Many taxpayers may find that they qualify for a tax reduction based on behavior or practices they are already engaged in.
The government creates tax credits to incentivize specific behavior, especially among corporations. Currently, there are over 1200 different tax credits available that each provide a dollar-for-dollar reduction to your tax bill. Below we’ll explore two key tax credits focused on retirement and childcare benefits.
Retirement Plans Startup Costs Tax Credit
The retirement plan startup costs tax credits were introduced by the Secure Act 2.0. This bill provides incentive for employers and individuals to save for retirement, to offset the lack of funding currently set aside in Social Security benefits.
This credit can cover 50% of eligible startup costs for small employer pension plans. Eligible plans include SEPs, SIMPLEs, 403(b) profit sharing plans, and money purchase pension plans. Only small businesses—defined as those with 100 or fewer employees—qualify. The company’s employees must also have received at least $5,000 in compensation.
The highest amount available is $5,000. To figure out the amount they’re eligible for, businesses can consult this flowchart:
The maximum credit you can receive is the greater of these two options…
- $500, or
- The lesser of these options:
- $250 per non-highly compensated employee, or
Business owners can also consider setting up a retirement plan to qualify for this credit. With a simplified employee pension (SEP) plan, for example, the employer is not required to match employee contributions. So an employer can set up a SEP, and even if they are the only person who opts into the retirement plan, they can qualify for a $500 tax credit.
If your business qualifies for this credit, a simple way to boost your tax savings is to add an auto-enrollment feature to your pension program. You’ll receive an additional $500 for three years just for using this functionality. The incentive here is based on research that shows that plans with an auto-enrollment feature have a 92% opt-in rate, compared to a less than 50% opt-in rate for non-auto enrolled retirement plans.
Lastly, adjustments were made to this credit in 2023, so that business owners could receive reimbursement for their employer contributions. For the first two years after the plan is set up, the employer can receive up to $1,000 per employee to cover their costs. In year three, the credit can cover 75% of employer costs. This drops down to 50% in year four and 25% in year five. Depending on the employer contribution amount, this credit could cover all or most of the employer match.
Lastly, let’s take a look at a case study to see how this would play out. Say a business has 10 employees, and everyone participates in the retirement plan. However, three employees count as highly-compensated, so according to the formula, they do not factor into the tax credit. The cost for the plan is $49 plus $8 per participant. This brings the employer cost to $1,548 per year. Since this business has seven non-highly compensated employees, they are eligible for a tax credit of $1750—that’s $202 more than the cost of the plan! Now the business can offer a great employee benefit at no cost, attract high quality employees, and increase their employee loyalty by managing costs and vesting schedules well.
Employer Provided Childcare Credit
Another valuable tax credit seeks to cover the cost of daycare provided by the employer. Large companies that have a childcare area in their office building and hire personnel to provide childcare can receive a major tax break. This credit can also apply to offsite daycare if an employer contracts a childcare facility to provide services for their employees.
The credit maxes out at $150,000 per year, but the actual amount depends on actual expenses. If the employer provides their own onsite daycare, the credit can cover up to 25% of qualified expenditures, such as wages for childcare workers, meals, furnishings, toys, and even electricity and other facility needs for that daycare space. If the employer hires an outside childcare facility, the credit can cover up to 10% of their expenditures. This can also apply to special services like those you can call to care for a sick child while you are working.
To qualify for this credit, the employer must offer childcare to all employees throughout the tax year. So the benefit cannot simply be for highly compensated employees, and a business cannot just offer the benefit at the very end of the year, hoping no one will take it.
The IRS last calculated the impact of this tax credit in 2016. In that year, the agency estimated that between 169 to 278 corporations claimed this credit. However, more than half of parents polled said that childcare responsibilities had impacted their ability to work over the last month. The conclusion? Businesses that can offer assistance with childcare will find themselves ahead of the game with more productive and loyal employees—and possibly increased tax savings.
The tax credits explored above were created to encourage more investment in retirement savings and to offset childcare costs for employees. Companies may be surprised to find that they already qualify or could take fairly simple steps to qualify for these sizable benefits.
Ensuring that you qualify for these tax credits can be a straightforward process if you understand the most recent requirements and factor these credits into your overall tax plan. To stay on top of tax saving strategies this year, enlist the help of a Certified Tax Planner.
Read more about tax credits in part 1 of this article, “Tax Credits 101: Finding The Hidden Treasure Chest Of Tax Savings.”