Anyone who is saving for retirement needs to pay attention to the retirement plan contribution limits.
There are two reasons this is important – you want to contribute as much as you can to reach your goals, but you also don’t want to contribute too much, because that can trigger possible penalties.
The IRS reviews retirement plan contribution limits each year, and this year they made a few changes and increased the maximum contribution levels of several retirement plans for 2020.
The significant changes came to employee-sponsored deferral programs such as the Thrift Savings Plan and the 401(k) plan – and similar plans such as the 403(b), 457, 401(a) plans.
Let’s take a look at some of the details you need to know.
Types of Retirement Plans Available
There are many different retirement accounts available to workers.
These retirement plans can be broken down into three major types:
- Individual (IRAs)
- Self-Employed, or Small Business.
Let’s take a look at some of the different types of plans and their contribution limits.
One note before we start – this is a simplified version of the types of retirement plans out available to most people.
This does not include traditional pension plans such as those provided by the military retirement system, the government, or companies in the private sector.
This also does not include Social Security Benefits.
Employer-Sponsored Retirement Plans
If you are in the military or work in the civil service, you are most likely eligible for the Thrift Savings Plan, or TSP. For the most part, the Thrift Savings Plan functions just like a 401k plan, which is a more common retirement plan in the civilian sector.
Similar retirement plans include the 403b (common in non-profit sectors), 457, and 401a plans.
These numbers might seem confusing at first, but don’t put much into their names – they refer to a chapter of the tax code.
Employer-sponsored retirement plans allow participating employees (that’s you) to contribute money directly from your paycheck, often before the money has been taxed.
This gives you a great long term benefit because your contributions are made before taxes reduce your income, giving you more money to work with.
The money will then grow tax-free until you make qualified withdrawals in your retirement age. At that point, your withdrawals are finally taxed.
Some employer-sponsored retirement plans have a Roth component, in which contributions are made after taxes have been collected from your payroll.
The contributions then grow without the drag of taxes, and qualified withdrawals are also tax-exempt.
Individual Retirement Plans, Including the Popular Roth and Traditional IRAs
These plans are one of the best ways to save for retirement, whether you have access to an employer-sponsored retirement plan or not.
You can invest in IRAs without having to worry about exceeding your employer-sponsored retirement plan contribution limits. This is because these plans have separate contribution limits.
The two main types of Individual Retirement Arrangements (IRAs) are the Traditional IRA and Roth IRA.
Traditional IRA contributions are generally tax-deductible if your income falls within income deductibility ranges. Contributions are made tax-free, grow without the drag of taxes, and are taxed when you make withdrawals. You can learn more about them in our Traditional IRA guide.
The Roth IRA is slightly different. Your contributions are made with funds that have already been taxed.
However, your contributions grow tax-free and are not taxed upon withdrawal. Roth IRAs have different income qualifications than Traditional IRAs, so you want to make sure you are aware of those details before making contributions.
- 5 Reasons to Consider a Traditional IRA over a Roth IRA
- 6 Reasons to Choose a Roth IRA over a Traditional IRA
Self-Employed Retirement Plans or Small Business Retirement Plans
There are a variety of retirement plans that are only open to small businesses and those who are self-employed.
One of the most popular is the Solo-401k, or individual 401k, which has the same contribution limits as the 401k plan you would find in the commercial sector, with one major addition: small business owners can defer a portion of their business income as an employer contribution.
Other small business retirement plans include SEP IRAs, SIMPLE IRAs, and Keough Plans.
2020 Retirement Plan Contribution Limits
The new limits are good for the 2020 tax year. Future retirement plan contribution limits will be pegged to inflation levels and raised in $500 increments.
Here are the contribution limits for the various types of retirement plans:
Employer-sponsored retirement plans: 401k, 403b, 457, 401a, and Thrift Savings Plan:
- Under Age 50: $19,500 (under age 50); Total max contribution (including employer matching, bonuses, etc.) $57,000.
- Over Age 50: $27,000 ($19,500, plus $6,500 Catch-up Contribution); Total max contribution (including employer matching, bonuses, etc.) $63,600.
- All contributions generally must be made within the calendar year.
- More information about – 401(k) contribution limits, and Thrift Savings Plan contribution limits.
Individual Retirement Arrangements (IRAs):
- $6,000 (under age 50); $7,000 (over age 50)
- Traditional and Roth IRAs also share a contribution limit with each other. The limit for 2020 is $6,000 across both accounts if you are under age 50. You can contribute all to one account, or split it between them. It doesn’t matter as long as you don’t exceed the limit.
- Contributions can be made in the calendar year, or up to the tax filing deadline of the following year (April 15th most years).
- Read more about Roth and Traditional IRA contribution limits, including income rules, withdrawal rules, and other relevant information.
Self-Employed and Small Business Plans:
- SIMPLE IRA Plan – $13,000 in salary contributions (under age 50), $16,000 (Age 50 or over), and either a 2% fixed contribution or a 3% matching contribution.
- Simplified Employee Pension (SEP) – Up to 25% of your net earnings from self-employment, up to $56,000.
- Solo 401k – Salary deferrals up to $19,500 (under age 50); $26,000 (over age 50); Pariticpants can contribute up to an additional 25% of their net earnings from self-employment income, up to $57,000 (under age 50) or $63,500 (over age 50).
- Small business plans may have different contribution deadlines. For example, some plans follow the calendar year, while others are more like the IRAs and have a contribution deadline that matches the tax filing deadline each year. Consult with your retirement plan documentation or a tax professional for more information.
Small business retirement plans can be complicated, and each business is unique.
It is recommended to get tax assistance if you have a self-employed retirement plan to ensure you choose the best retirement plan for your situation.
Don’t Exceed Retirement Plan Contribution Limits!
Each retirement plan has specific qualifications, contributions, and other rules that must be followed.
One thing you want to avoid is exceeding contribution limits, which may subject you to penalties or fees with the IRS.
It’s also important to note that some of these plans have common contribution limits.
For example, the Solo 401k plan shares a contribution limit with the employer-sponsored plans listed above (401k, TSP, 403b, etc.).
So if you are eligible for both plans, you would need to balance your contributions between these plans to ensure your total contributions don’t exceed the maximum for the year.
Balancing Retirement Account Contributions When Working More Than One Job
Let’s look at an example that I face each year.
The 2020 Employer-Sponsored Contribution limits for 401ks, TSP, and similar retirement plans is $19,500 if you are under age 50 (which I am).
I have a small business with a Solo 401k plan. I am also a member of the Air National Guard and am eligible for the Thrift Savings Plan.
Unfortunately, these two plans share the same contribution limit, so I have to either focus all of my contributions in one account or do a balancing act each year to avoid exceeding contribution limits.
In my case, I simply max out my Solo 401k each year and don’t contribute anything to the TSP.
I don’t earn enough in the Guard in most years to max out my TSP; otherwise, I would use that for my contributions. But I can max out my Solo 401k through my business each year, so I do that instead.
Focusing all my contributions in one account simplifies bookkeeping and kelps me to avoid contributing too much in any given tax year (and avoiding costly penalties that may occur for doing so).
Pay Attention to Employer-Sponsored Contributions When Changing Jobs
You also need to be aware of contribution limits if you change jobs in any given year. Most employer-sponsored retirement plans only allow you to contribute a percentage of your income, not a fixed dollar amount.
So you need to run the numbers to make sure you don’t contribute too much if you change jobs.
This is something to be aware of if you are planning to change jobs in any given year.
This is a common situation many military members find themselves in each year when they separate from the military.
If possible, plan for this well in advance of your separation. One way to do that is to front-load your contributions in the early part of the year to ensure you max out your contributions before separating from the military (you can also do this from any job if you know you will be leaving during the calendar year).
Contribute As Much As You Can, Now!
It’s best to contribute as much as you can contribute to your retirement accounts because that gives your money more time to grow via compound interest.
Remember, the more money you invest now, the less you have to worry about later.
So the best thing you can do today is to start investing!
If you aren’t sure how to invest, or if the current markets make you nervous, consider placing your money in a high-interest money market account or a CD until you feel more comfortable investing your money into equities.
Additionally, most retirement accounts have a cash fund or cash equivalent, which allows you to make the contribution now, then figure out where to invest later.
This removes the biggest barrier to investing.
Finally, if you don’t know where to start, you can invest in a target-date fund, similar to that found in the TSP.
This automatically diversifies and balances your portfolio without you having to make any big decisions or take any additional actions. This is the easiest way to invest.
Don’t let uncertainty stop you from contributing to retirement accounts now.
Just get started. Future you will thank you in a few years!