401(k) plans, 403(b) plans, 457(b) plans, and IRAs are all popular retirement savings vehicles with their own annual contribution limits. Each of these types of plans allows individuals to exceed the annual limit by making catch up contributions. The rules for catch up contributions are slightly different for each type of plan.
401(k) Catch Up
In a 401(k) plan, a participant may make a catch-up contribution starting in the year in which they attain age 50. They do not have to actually be 50 years old at the time the contribution is made as long as they will be 50 before the end of the year.
For 2020 and 2021, the normal 401(k) contribution limit is $19,500. A participant who is eligible to make a catch up contribution can exceed that by up to the amount of the catch up limit, which is $6,500 for both 2020 and 2021. So, anyone born on or before December 31, 1970 can contribute $26,000 to their 401(k) plan for both 2020 and 2021. Someone born in 1971 could contribute $19,500 for 2020, but $26,000 for 2021.
Besides being of the appropriate age, a participant must also make sure that their plan allows for catch up contributions. Most 401(k) plans will allow them but plans are not required to do so. If a plan allows any participant to make catch up contributions, however, it must allow them for all eligible participants. Catch up contributions are disregarded when performing the ADP test, and when determining the plan’s top heavy minimum.
403(b) Catch Up
403(b) plans can allow for the same age 50 catch up as 401(k) plans, plus an additional catch up for long-term employees. If an employee has completed at least 15 years of service with the employer sponsoring the plan (or, if the employer is a church-related organization, any organization related to the same church), then they are eligible to contribute a catch up amount equal to the least of:
$3,000;
$15,000 less the total amount of this special catch up used in prior years; or
$5,000 multiplied by the participant’s total years of service, less the sum of all elective deferrals made to any plan sponsored by the employer, including 401(k), 403(b), SARSEP or SIMPLE plans.
This is a complex determination, and some 403(b) sponsors will choose not to permit this special catch up simply to avoid the burden of calculating this limit.
Clause (3) of the limit is the most burdensome on the employer, since it requires the employer to retain records of how much the employee deferred through their entire history. The employer must count all the employee’s years of service (which must be at least 15, if we are considering this special catch up) and multiply that number by $5,000; for an employee with 15 years of service that is $75,000. Then the employee’s lifetime deferrals - including those into any 401(k) or other plan sponsored by the employer, even if the plan no longer exists - are subtracted from that amount to get our limit. If our employee with 15 years of service has deferred more than $75,000 in their entire history with the employer, then their limit is $0 and they are effectively not eligible for the special catch up. Another way of looking at this is if the employee’s average annual deferral contribution exceeds $5,000, then they are not eligible.
Considering the other extreme, if an employee had never deferred at all, then clauses (1) and (2) limit the contribution. Clause (2) says the lifetime maximum contribution that can be made under this special catch up rule is $15,000, and clause (1) says the maximum contribution that may be made in a single year is $3,000. Taken together these limit the special catch up to a maximum of $3,000 a year for 5 years. An employee who made some deferrals in the past, but less than $5,000 per year on average, will still be eligible to make some catch up contributions, but may not be eligible to get the full $3,000 for 5 years.
The 403(b) long service catch up limit applies in addition to the age 50 catch up, so an employee who is at least age 50 and has at least 15 years of service could potentially contribute $19,500 (annual 403(b) limit) + $6,500 (annual catch-up limit) + $3,000 (special catch up limit) = $29,000 in a single year. Like 401(k) plans, 403(b) plans are not required to offer either the age 50 catch up or the long service catch up, and may offer just one or the other, so participants should confirm their plan’s provisions with their employer.
457(b) Catch Up
457(b) plans can offer a unique type of catch up contributions but only in the three years immediately preceding the participant’s normal retirement age, as defined in the plan. The limit on this catch up contribution is equal to the lesser of the annual contribution limit, or the amount by which any past years’ limits were not fully used.
The effect of this is to allow a participant to make up for an underutilized contribution limit from a prior year. This is sometimes referred to as a missed opportunity. Depending on how much less than the annual maximum they contributed, they may not be able to fully recoup the missed opportunity, however they should still be able to contribute 200% of the normal annual limit. Timing is crucial with non-governmental 457(b) catch up since it is only available in the 3-year window leading up to normal retirement.
Governmental 457(b) plans may offer the age 50 catch up with the same limits as apply to 401(k) plans in addition to the 3-year catch up; however both types of catch up may not be used in the same plan at the same time. Since 457(b) limits are not aggregated with 401(k) or 403(b) limits, if an employee is a participant in both a 457(b) plan and a 401(k) or 403(b) plan, they may be able to take advantage of both types of contribution and catch up limits, as long as they are eligible.
IRA Catch Up
IRAs, including Roth IRAs, allow catch up contributions for individuals age 50 or older. The catch up limit is $1,000, in addition to the IRA contribution limit that would otherwise apply. Like other IRA contributions, the individual has until their tax filing deadline to make the catch up contribution.
Getting All Caught Up
Catch up contributions are a useful way to boost retirement savings for individuals getting closer to retirement. The rules can be complex and vary significantly depending on circumstances. Leveraging catch up contributions can allow you to save more and possibly reduce your annual tax bill. To learn how to tax advantage in your particular situation, please call us today.