Catch-up Contributions

In recent years, Congress came up with catch-up contributions through The Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) because they felt that Baby Boomers wouldn’t have enough in their savings to properly retire. To make up for what they thought may have been missing, they began allowing Boomers to add more to their investment pots once they reach the age of 50 – or more specifically, in the year that they reach their 50th birthday. So now, in addition to the traditional 401k plan that allows you to save up to $15,500 of your eligible pay each year like everyone else, you can also take advantage of catch-up contributions, which allow you to save up to $5,000 more each year. Please see below for the 2010 updates!

Catch-up contributions work well whether you belong to one plan or two – or even if you belong to a company that doesn’t allow it. For example, if you belong to two 401k plans at the same time, you can make contributions for the maximum amount to both simultaneously. So instead of a max of $5,000 that is allowed with one plan, you could contribute for a total of $10,000 per year if under two plans. Also, if you belong to more than one employer (and thus more than one plan), even if neither company allows for catch-up contributions, you can still contribute up to $20,500 ($15,500 for standard elective deferrals plus $5,000 extra in catch-up contributions) total between the two plans – as long as you don’t exceed $15,500 in either plan. In other words, you can contribute $15,500 with one plan and $5,000 in the other. Or $10,250 in both plans. Or $7,500 in one and … you get the picture, right?

The eligibility for catch-up contributions is as follows:

You must be 50-years-old or turning 50 within the calendar year.
You must be getting paid from your employer (since the contributions are actually deductions from your paycheck).
You must contribute the amount that will help you reach your elective deferral limit by the end of each relevant year.
And you cannot be in the 6-month period of non-contribution because you’ve received a financial hardship withdrawal.

Catch-up contributions are available for the 401k, 403b (Tax Shelter Annuity) and 457 (Deferred Compensation) plans, in addition to IRAs. Because you can participate with multiple plans, it is good to know that the rules differ among them. So, for instance, if you have rolled over your retirement funds to say an IRA since you’ve reached the age of 50, you will need to make sure to check for new contribution guidelines that are different than what you’re used to.

It is good to note that while this plan is offered by over 90 percent of businesses, they are not required to match your contributions. So be sure to check with your employer to see how this works at your company. But whatever you decide, you’ll probably find that taking this route will be more beneficial in helping you save than by trying to set up a savings plan on your own.

UPDATES FOR 2010

There is a limit on the amount of elective deferrals that you can contribute to your traditional or safe harbor 401(k) plan.

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The limit is $16,500 for 2009 and 2010.
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The limit is subject to cost-of-living increases after 2010.

Generally, all elective deferrals that you make to all plans in which you participate must be considered to determine if the dollar limits are exceeded.

Limits on the amount of elective deferrals that you can contribute to a SIMPLE 401(k) plan are different from those in a traditional or safe harbor 401(k).

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The limit is $11,500 for 2009 and 2010.
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The limit is subject to cost-of-living increases after 2010.

Although, general rules for 401(k) plans provide for the dollar limit described above, that does not mean that you are entitled to defer that amount. Other limitations may come into play that would limit your elective deferrals to a lesser amount. For example, your plan document may provide a lower limit or the plan may need to further limit your elective deferrals in order to meet nondiscrimination requirements.

Catch-up contributions. For tax years beginning after 2001, a plan may permit participants who are age 50 or over at the end of the calendar year to make additional elective deferral contributions. These additional contributions (commonly referred to as catch-up contributions) are not subject to the general limits that apply to 401(k) plans. An employer is not required to provide for catch-up contributions in any of its plans. However, if your plan does allow catch-up contributions, it must allow all eligible participants to make the same election with respect to catch-up contributions.

If you participate in a traditional or safe harbor 401(k) plan and you are age 50 or older:

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The elective deferral limit increases by $5,,500 for 2009 and 2010.
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The limit is subject to cost-of-living increases after 2010.

If you participate in a SIMPLE 401(k) plan and you are age 50 or older:

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The elective deferral limit increases by $2,500 for 2009 and 2010.
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The limit is subject to cost-of-living increases after 2010.

The catch-up contribution you can make for a year cannot exceed the lesser of the following amounts:

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The catch-up contribution limit, above, or
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The excess of your compensation over the elective deferrals that are not catch-up contributions.

Participation in plans of unrelated employers. If you participate in plans of different employers, you can treat amounts as catch-up contributions regardless of whether the individual plans permit those contributions. In this case, it is up to you to monitor your deferrals to make sure that they do not exceed the applicable limits.

Example: If Joe Saver, who’s over 50, has only one employer and participates in that employer’s 401(k) plan, the plan would have to permit catch-up contributions before he could defer the maximum of $22,000 for 2009 (the $16,500 regular limit for 2009 plus the $5,500 catch-up limit for 2009). If the plan didn’t permit catch-up contributions, the most Joe could defer would be $16,500. However, if Joe participates in two 401(k) plans, each maintained by an unrelated employer, he can defer a total of $22,000 even if neither plan has catch-up provisions. Of course, Joe couldn’t defer more than $16,500 under either plan and he would be responsible for monitoring his own contributions.

The rules relating to catch-up contributions are complex and your limits may differ according to provisions in your specific plan. You should contact your plan administrator to find out whether your plan allows catch-up contributions and how the catch-up rules apply to you.

Treatment of excess deferrals. If the total of your elective deferrals is more than the limit, you can have the difference (called an excess deferral) returned to you from any of the plans that permit these distributions. You must notify the plan by April 15 of the following year of the amount to be paid from the plan. The plan must then pay you that amount plus allocable earnings by April 15 of the year following the year in which the excess occurred.

Excess withdrawn by April 15. If you withdraw the excess deferral for 2008 by April 15, 2009, it is includable in your gross income for 2008, but not for 2009. However, any income earned on the excess deferral taken out is taxable in the tax year in which it is taken out. The distribution is not subject to the additional 10% tax on early distributions.

Excess not withdrawn by April 15. If you do not take out the excess deferral by April 15, 2009, the excess, though taxable in 2008, is not included in your cost basis in figuring the taxable amount of any eventual distributions from the plan. In effect, an excess deferral left in the plan is taxed twice, once when contributed and again when distributed. Also, if the entire deferral is allowed to stay in the plan, the plan may not be a qualified plan.

Reporting corrective distributions on Form 1099-R. Corrective distributions of excess deferrals (including any earnings) are reported to you by the plan on Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc.

Refer to Publication 525, Taxable and Nontaxable Income, for more information about limits on your elective deferrals.

Additional limits. There are other limits that restrict contributions made on your behalf. In addition to the limit on elective deferrals, annual contributions to all of your accounts – this includes elective deferrals, employee contributions, employer matching and discretionary contributions and allocations of forfeitures to your accounts – may not exceed the lesser of 100% of your compensation or $49,000 for 2009 and 2010. In addition, the amount of your compensation that can be taken into account when determining employer and employee contributions is limited. In 2009 and 2010, the compensation limitation is $245,000.

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1 Comment

  1. IRA Rules says:

    Thank you so much, there aren’t enough posts on this… or at least i cant find them. I am turning into such a blog nut, I just cant get enough and this is such an important topic… i’ll be sure to write something about your site

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