Purpose of Retirement Contribution Limits
Contribution limits are designed to:
- Ensure Fairness: By setting caps, the IRS aims to prevent higher-income individuals from gaining disproportionate tax and retirement benefits compared to lower-income individuals.
- Promote Retirement Savings: Encourage consistent retirement savings by setting a structure. Retirement financial planning has changed significantly within the last 50 years, and a diversified and maximized strategy is crucial.
- Tax Regulation: Maintain balance in the tax system by limiting how much income can be deferred or excluded from taxation through retirement savings. If money isn't in circulation while it is being saved and the IRS cannot account for when it went in or will pull, tax revenue cannot be consistent.
Typical Types of Retirement Plans and Their Limits
- Traditional and Roth IRAs
- 2024 Limit: $7,000 for individuals under 50.
- Catch-Up Contribution Limit: Additional $1,000 for those 50 and older, for a total of $8,000.
- Income Limits for IRAs: Contributions for Roth IRAs are phased out at higher income levels. Individuals who make less than $146,000 annually can contribute the full limit, those who make between $146,000 and $161,000 can make partial contributions, and those who make more than $161,000 cannot contribute to a Roth IRA. Traditional IRAs have no income limits, and all individuals can contribute the full amount. The limit includes Traditional and Roth IRAs, so if an individual has both types of accounts, they cannot exceed $7,000/$8,000 contributions combined.
- SEP IRAs (Simplified Employee Pension)
- 2024 Limit: $69,000 or 25% of compensation, whichever is less.
- Contributions are made only by the employer, and no catch-up contributions are allowed.
- SIMPLE IRAs (Savings Incentive Match Plan for Employees)
- 2024 Limit: $16,000 for individuals under 50.
- Catch-Up Contribution Limit: Additional $3,500 for those 50 and older, for a total of $19,500.
- Employer Contribution Limits: Employers are generally required to match the employee's elective contribution up to 3% of their salary, or 2% of the salary of an employee's nonelective contribution, which cannot exceed $345,000.
- 401k Plans
- 2024 Limit: $23,000 for individuals under 50.
- Catch-Up Contribution Limit: Additional $7,500 for those 50 and older, for a total of $30,500.
- Employer Contribution Limits: Total contributions (employee + employer) cannot exceed $69,000 or 100% of the employee's compensation, whichever is less.
- 403b Plans
- 2024 Limit: $23,000 for individuals under 50.
- Catch-Up Contribution Limit: Additional $7,500 for those 50 and older, for a total of $30,500.
- Employer Contribution Limits: Total contributions (employee + employer) cannot exceed $69,000 or 100% of the employee's compensation, whichever is less.
- Available to employees of public schools and specific tax-exempt organizations. Also referred to as "tax-sheltered annuity” or “TSA plan."
Factors Affecting Contribution Limits
- Type of Plan: As seen above, different plans have distinct limits and rules. Keep an eye on the total amount of contributions, even if distributed across different types of plans.
- Age: Individuals 50 and older can make additional contributions to catch up on retirement savings. This gives folks nearing retirement a chance to maximize their retirement plans.
- Income: Roth IRA contributions are phased out at higher income levels. Traditional IRA contributions have no income limits for contributions but may be tax deductible based on income and participation in employer-sponsored plans, like 401Ks or 403Bs (which do not have income limits).
- Employment Status: SEP and SIMPLE IRAs are used by self-employed individuals and small businesses.
Importance of Adhering to Contribution Limits
- Tax Benefits: Contributing within limits ensures account holders receive the full tax benefits associated with retirement accounts, such as tax deductions, tax-deferred growth, or tax-free withdrawals.
- Compliance: Staying within IRS limits prevents monetary penalties and ensures compliance with tax laws, maximizing the amount the individual retains in the account(s).
- Financial Planning: Helps individuals plan and optimize their retirement savings strategy. Retirement can be a stressful time when folks have to adjust their means of living, and starting early and within compliance helps ease anxiety as much as manageable.
Penalties for Exceeding Retirement Contribution Limits
If you contribute more than the allowed limit, the IRS can impose up to a 6% tax on the excess contribution each year it remains in the account. It's essential to correct any excess contributions promptly to avoid ongoing penalties. There are a few ways to correct over-contributions, like pulling out the excess money during tax season or rolling it into the next tax season, which still may result in a penalty fee.
How to Maximize Retirement Contributions
- Start Early: To take advantage of compound growth over time, begin contributing as soon as possible.
- Stay Informed: Stay up to date with IRS regulations to contribute the maximum amount across all retirement accounts, but refrain from losing money on unnecessary fines.
- Use Catch-Up Contributions: If you're 50 or older, utilize the catch-up provisions to boost your retirement savings.
- Employer Matching: Contribute enough to 401k accounts to receive employer matching contributions, effectively increasing your retirement savings at no cost to you.
- Diversify Accounts: Consider contributing to different types of retirement accounts to diversify your tax advantages.
Annual Adjustments to Retirement Contribution Limits
The IRS periodically reviews and adjusts contribution limits based on inflation and other economic factors. Generally, we've seen a ~$500-$1,000 increase annually. It's essential to stay informed about these changes to maximize your retirement savings each year. We recommend bookmarking this page.
