There is some good news from the IRS for retirement savers; they have announced an increase to the contributions limits for workers with a 401(k), 403(b) and 457 defined contribution plans for 2022. Larger contributions will allow you to defer more income from taxation. This will be great for high-income Americans who are facing potentially higher taxes next year under tax proposals from President Biden’s Build Back Better plan.
New Contribution Limits for Employees with a 401(k) Plan
As a financial planner, I love when my clients max out their retirement accounts. So, I get excited when the contribution limits increase. The increases announced by the IRS apply to 403(b), 457, and 401(k) plans, but I will just say 401(k) going forward for ease of reading. The news is that for 2022, employees of a business with a 401(k) will be allowed to contribute up to $20,500 per year. This is a $1,000 increase over the 401(k)-contribution limit of $19,500 for 2021.
For 2022, the 401(k) catch-up contribution remains the same at $6,500. This is limited to workers who are at least 50 years old.
New Solo 401(k) Contributions Announced for 2022
There is also good news for business owners who have a 401(k) plan for their employees or small business owners who take advantage of the tax benefits from a solo 401(k). The total contribution limits to a 401(k) plan have increased to $61,000 (plus a $6,500 catch-up contribution for those 50 or older) in 2022. Catch-up contribution aside, that is a $3,000 increase over the $58,000 401(k) contribution limit from 2021.
This $61,000 contribution limit for a solo 401(k) in 2022 includes both the employee and employer contributions. So, between profit sharing, employee deferral, and company match, the maximum that could go into a 401(k) for one person in 2022 is $61,000. Or $67,500 for business owners over the age of 50.
While this adjustment to 401(k) contribution limits for 2022 probably won’t be life-changing, it can help business owners save some money on taxes. For example, 50-year-old California business owners in the top federal and state tax brackets could be hit with a tax rate above 50%. In this scenario, maxing out a solo 401(k) at the 2022 limits level could save a business owner $337,000 in income taxes over the next decade. Not to mention the value of deferred gains on the value of investments within the 401(k). Of course, taxes will be due on eventual withdrawals from the 401(k) plan. There are many tax planning strategies to help reduce the taxes paid on retirement income.
If you need to save more money that is allowed with a Solo 401(k) plan, make sure to check out the Cash Balance Plan which also saw it conrtibution limits increase to $245,000 in 2022. You could easily double that if you spouse also works with you in your business.
Why Are the 401k Limits Increasing for 2022?
According to IRS notice 2021-61, “Section 415 of the Internal Revenue Code (“Code”) provides for dollar limitations on benefits and contributions under qualified retirement plans. Section 415(d) requires that the Secretary of the Treasury annually adjust these limits for cost-of-living increases. Other limitations applicable to deferred compensation plans are also affected by these adjustments under section 415. Under section 415(d), the adjustments are to be made under adjustment procedures like those used to adjust benefit amounts under section 215(i)(2)(A) of the Social Security Act.”
Translation: Luckily for retirement savers, these types of adjustments to 401(k) contribution limits are required and based on increases in the cost of living. The lucky part is that they don’t need action on the part of Congress to be implemented each year.
What To Do Now?
Check your contribution for 2021 and see if you are maxing out your retirement accounts. If you are already maxing out your 401(k), look to increase your contributions for 2022 to take advantage of the new 401(k) contribution limits for 2022. For business owners, talk with your trusted fiduciary financial planner to make sure you have the right retirement plan for your business. A solo 401(k) for 20