When evaluating a job offer, salary isn’t the only factor to consider. Pre-tax benefits can have a big impact on your take-home pay and overall financial health. You can save money for specific expenses before taxes, lowering your taxable income and the amount of income tax you owe to increase your spendable earnings.
If you’re comparing job offers, benefits enrollment or annual tax planning, a financial advisor can help you evaluate how pre-tax and post-tax benefits play a role in your financial situation.
What Are Pre-Tax Benefits and Deductions?
Employee benefits that are deducted from your paycheck before federal income taxes, Social Security taxes and Medicare taxes are calculated. These paycheck deductions lower your taxable income, and help employees save money to plan for the future.
However, pre-tax benefits may also reduce the wages reported on your W-2. This can impact how lenders assess your income for loans or mortgages. You’ll generally pay taxes on this money when you withdraw it, such as in the case of retirement accounts.
Examples of Pre-Tax Benefits and Deductions
Employers often offer a selection of pre-tax options as part of their total compensation package, allowing employees to customize their benefits based on personal priorities and lifestyle. Here are four common pre-tax benefit options.
Pre-Tax Retirement Plans
One of the most popular pre-tax benefits is the employer-sponsored retirement plan, such as a 401(k) or 403(b). Contributions to these plans grow tax-deferred. You won’t pay taxes on the money until you withdraw it. These plans often include employer matching contributions, making them even more valuable.
Health Insurance Plans
Employers usually deduct health insurance premiums from your paycheck on a pre-tax basis. This reduces the amount of income subject to federal income tax and FICA (Social Security and Medicare) taxes. The IRS requires pre-tax health insurance deductions follow a Section 125 “cafeteria” plan, which must meet certain requirements. If you waive coverage or choose a plan outside your employer’s offerings, you may lose the pre-tax advantage.
Health Savings Accounts (HSAs)
An HSA is a tax-advantaged savings account available to individuals enrolled in a high-deductible health plan (HDHP). You contribute pre-tax dollars which grow tax-free until you withdraw them, again tax-free, for qualified medical expenses.
Unlike flexible spending accounts (FSAs), HSAs do not have a “use-it-or-lose-it” rule. The funds roll over from year to year and can even be invested. HSAs offer a rare triple tax benefit: pre-tax contributions, tax-free growth and tax-free withdrawals for medical costs.
Commuter Benefits
Commuter benefits allow employees to pay for transportation and parking expenses using pre-tax income. These programs, administered through payroll deductions, cover eligible transit costs such as subway passes, bus fare, commuter rail and qualified parking at or near work.
Pre-Tax vs Post-Tax Benefits
While pre-tax benefits offer immediate tax savings, post-tax benefits are deducted after your income has already been taxed. Some post-tax benefits are essential for income replacement or long-term financial security. Three examples of post-tax benefits include:
- Post-tax retirement plans. Roth 401(k) and Roth IRA contributions are made with after-tax dollars. While you don’t get a tax deduction upfront, qualified withdrawals are tax-free in retirement.
- Stipends. Housing stipends, education reimbursements, and wellness stipends often come out of post-tax income, depending on how the employer structures the benefit.
- Garnishments. Court-ordered wage garnishments — such as child support or debt repayment — are deducted after taxes and are not considered a benefit. But it is important to note them as post-tax payroll activity.
You can pay for life insurance and disability insurance with either pre-tax or post-tax deductions. It’s a good idea to check with your plan administrator to ensure you understand the tax implications.
Bottom Line
Pre-tax benefits can make a big difference in your take-home pay, long-term savings and financial flexibility. By reducing your taxable income, they offer an immediate tax advantage while helping you cover essential expenses like healthcare, retirement and transportation.
Tax Planning Tips
- A financial advisor can help you create a tax plan for your portfolio. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- If you want to know how much your next tax refund or balance could be, SmartAsset’s tax return calculator can help you get an estimate.
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