In 2020, the median 401(k) balance for those 45-54 was $56,722. For those 55-64, it was $84,714. If you fall into these age groups, you may be thinking that’s nowhere near enough money to retire!
And you would be right.
Fortunately, you can add more funds to your account through 401(k) catch-up contributions. This will help you adequately prepare for retirement. So keep reading to learn everything there is to know about making catch-up contributions to your 401(k) account.
What Are Catch-Up Contributions?
Catch-up contributions allow older people to put more money into their retirement accounts than the usual contribution limits set by the IRS. The contribution age for making catch-up payments is 50 and above.
However, you don’t have to wait until you turn 50 to make catch-up contributions. Eligibility begins the year you turn 50.
So if you turn 50 on October 9, 2022, you can start making catch-up contributions from January 1, 2022.
The concept allows older individuals to make up for the years they didn’t save enough money for retirement. Plus, since people usually earn more as they advance in their careers, most have more money to contribute at a later age.
If you have money to contribute, it makes sense to use catch-up contributions to your retirement accounts, as you’ll see below.
To understand how to allocate money in your portfolio, you can work with a certified financial planner (CFP) to help. Those with multiple retirement plans should do additional research and planning before making contributions.
Contribution Amounts and Limits
Several retirement plans allow for catch-up contributions. They are:
- 401(k) (other than a SIMPLE 401(k))
- Governmental 457(b)
To make catch-up contributions, you must first reach your plan’s contribution limit. Here’s a breakdown of contribution limits for 2021 and 2022.
The contribution limit for IRAs in 2021 and 2022 is $6,000. The catch-up contribution is $1,000. Those 50 and over can contribute a total of $7,000 per year.
The limits for 401(k) plans (not SIMPLE) and other workplace retirement plans, such as 403(b)s, 457s, and Thrift Savings Plans (TSPs) are:
- $19,500 for 2021
- $20,500 for 2022
The catch-up contribution limit is $6,500. Thus, those over 50 can contribute up to $26,000 in 2021 and $27,000 in 2022.
You can also make catch-up contributions to a Roth 401(k) amount. The contribution limits are the same as a traditional 401(k).
The contribution limits for SIMPLE 401(k) retirement accounts are $13,500 in 2021 and $14,000 in 2022. The catch-up contribution is $3,000. So, those over 50 can contribute up to $16,500 in 2021 and $17,000 in 2022.
The IRS often adjusts contribution limits annually depending on how much the cost-of-living changes. Therefore, you will need to keep an eye out for contribution limits for 2023 as the year progresses.
Contribution deadlines are usually year-end for 401(k) plans. However, some accounts may have a longer period to make contributions based on the company’s deadline to file its taxes, including extensions.
It’s worth speaking to your HR representative, a CFP, or your account administering company to see if you can still make contributions for 2021 before making contributions for 2022.
If you hold other retirement accounts, they may have different contribution deadlines. For example, the deadline for individual retirement accounts (IRAs) is Tax Day, April 18, 2022.
Always add contributions to 2021 first, if possible, before adding to 2022. This will help you max out your contributions and save more money.
Benefits of Catch-Up Contributions
Making catch-up contributions means more money in retirement. However, it’s not just that you’re saving more money.
You’re also allowing your money to grow more.
Let’s look at an example. In 2021, you maxed out your 401(k) at $19,500. If your 401(k) has an annual return of 5% after one year, your contribution is worth $20,475.
If you made a catch-up contribution for 2021 of $6,500 (total contribution $26,000), the value goes up to $27,300 after one year. If it continues to grow at an average rate of 5% per year, you will have significantly more money saved from making catch-up contributions.
Further, those who have an employer match on their contributions will see even more money in their account. The IRS calls the money you put into your 401(k) “elective deferrals.”
Elective deferrals are separate from any employer match contributions. That means the total amount of tax-deferred contributions plus all other defined contribution (DC) plans is $57,000 or $63,500 for those 50 and over.
Tax Benefits for 401(k) Accounts
The money-making benefits of making catch-up contributions are clear, but there are also great tax benefits. 401(k) accounts are tax-deferred.
When you divert funds to your 401(k) from your paycheck, you don’t pay taxes on those funds (yet). 401(k) dollars are pre-tax dollars. That means you pay taxes on the money when you start making withdrawals in retirement.
Putting more money into your 401(k) through catch-up contributions will lower your taxable income until you retire. This will save you thousands of dollars, especially if you’re in a higher ordinary income bracket.
This is good because your income bracket is usually lower when you retire since your income is generally lower. As a result, you’ll likely pay a lower tax rate on the money you contribute to your 401(k) account.
Tax Benefits for Roth 401(k) Accounts
Roth accounts are different from traditional accounts because they aren’t tax-deferred and use after-tax dollars. Instead, you pay taxes on your contributions to a Roth 401(k) account upfront.
However, you don’t have to pay taxes on that money again. Your investments within the Roth 401(k) account grow tax-free. Plus, when you start making withdrawals from the account in retirement, you won’t pay taxes on the money again.
Roth 401(k) accounts are great for those who foresee their income being the same or higher when they retire. Also, those savvy in investing use Roth accounts to grow their investments without having to pay capital gains tax.
Even though you pay taxes upfront, if your contributions grow significantly over the years, you could save a lot on your tax bill once you want to withdraw the money.
Some employers also offer a match for Roth 401(k) contributions, so speak with your employer to see if they have any match programs available.
Contributing to a Roth 401(k) could be a smart way to save for retirement. Speaking with a CFP will help determine if it’s for you.
How to Make 401(k) Catch-Up Contributions
To start making catch-up contributions, access your 401(k) account online through your administrator’s website. You can change the amount you want to contribute from each paycheck in your settings.
Just look for how to adjust your automatic contributions. You can change how much you want to contribute each pay period at any time.
To max out your 401(k) for 2022, you want to contribute $2,250 per month if you’re 50 or older. Those younger than 50 need to contribute about $1,700 per month to max out their 401(k).
If you have trouble figuring out how to do this, contact your plan administrator, and they can assist you.
Make More Money With Your 401(k) Investments
Making catch-up contributions to your 401(k) account is an excellent way to boost the amount of money you’ll have in retirement. From lowering your tax bill to giving your money more time to mature, it could be the difference between a fulfilling retirement or a stressful one.
But, there are other ways you can maximize the funds in your 401(k) aside from making catch-up contributions. Let’s take a look.
Use Direct Deposit
Since contributions to your 401(k) are withheld from your paycheck, use direct deposit so they go right into your retirement account. It’s fast and easy.
But most importantly, it reduces the temptation to skip a deposit. You can still change your contribution percentage at any time using direct deposit.
If you receive a raise or bonus, you can easily change the settings to put more money into your 401(k) without it ever coming into your checking account.
When you put money into your 401(k) or other retirement accounts, it doesn’t just sit there. You use the money to invest in stocks, bonds, mutual funds, or other securities.
Mutual funds are popular for retirement accounts because they tend to be stable over time and have reasonable return rates.
No matter how you invest your retirement money, choose low-cost funds. You have to pay fees on the funds you own in your 401(k) account. So research to find the most low-cost fund that meets your investing needs.
Avoid Fines and Penalties
You know that at 50, you can start making catch-up contributions. But remember, you cannot begin withdrawing money until age 55 1/2. If you do, there’s a 10% penalty.
Traditional 401(k) accounts also have a required minimum distribution (RMD) starting at age 72. If you fail to take your RMD, you will face a 50% penalty.
Even though we discussed how to contribute more to your retirement accounts through catch-ups, don’t forget to follow the regulations on withdrawals. Not doing so will incur losses that could dampen your retirement.
Contribute More and Live a Happy Retirement
If you’re age 50 or older, change how much you contribute to your retirement fund each pay period to capitalize on 401(k) catch-up contributions. You’ll add more money to your retirement account and set yourself up for a better future by making catch-up contributions.
For more content about retirement and investing, head over to the Finance section. We publish new articles regularly to keep our readers informed.