401k Contribution Amount Put Me In Different Tax Bracket?

Have you ever wondered what a 401k does to your taxable income?

QUESTION: Kevin asks if he’ll end up with more take-home pay by putting more money into his 401-K.  He was told he’ll have a lower taxable income if he does that.  Is that correct?

ANSWER: It will bring your taxable income down by the amount which you put into the 401-K.  You will not have an increase in take-home pay because you’ll be putting more into your 401-K. 

Here’s an example.  If you’re in a 25% tax bracket, meaning that 25% of the money you make goes to taxes, and you put $1,000 into your 401-K, you are not taxed on that amount.  So, you reduced your take-home pay by $1,000, but you also reduced your tax bill by $250.

It’s not a one-for-one deal meaning that you don’t get a $1,000 tax break because you put $1,000 more in your 401-K.  Your tax rate determines that.