Do you and/or your employer make contributions to a retirement plan such as an IRA. 401k. 403b. SIMPLE. or SEP plan? What exactly do we mean when we refer to retirement plan contributions?
Retirement plan contributions consist of the money paid into the account by employees, employers, and the self-employed. Review the sections below for more information:
What Are the Employee Contributions to Retirement Plans?
There are 4 types of contributions that employees can make to retirement plans:
Elective Deferral Contributions
Also called salary reduction contributions, these are the most common types of contributions to retirement plans. You elect to have money deducted from your salary each pay period and contributed to your retirement account. Pre-tax dollars are contributed, which means that the money does not have any tax withheld from it before it is put in the retirement account. In most cases, a percentage of pay is contributed, but in some plans you can contribute a set dollar amount. Money that is contributed in this way is not reported as taxable income.
Designated Roth Contributions
A designated Roth contribution is similar to an elective deferral, except the amount deferred is taxable as normal income. You choose to contribute a set percentage or amount of your salary per pay period, but you use taxable income. You do not exclude Roth contributions from your income on your tax return. The main benefit of a Roth account is that qualified distributions are non-taxable.
Not all retirement plans allow after-tax contributions. These are generally non-Roth contributions that you choose to make in addition to your regular elective deferrals of salary. If your plan allows after-tax contributions, any contributions that you make must be included in your taxable income. After-tax contributions may not be deducted, either.
Many, but not all, retirement plans allow catch-up contributions. If you are at least age 50 by the end of the year, you may be able to make additional, nontaxable, elective deferrals beyond the basic limit on contributions. If your plan allows it and you qualify, you can make these contributions, up to the catch-up contribution limit, even if you have made regular deferrals up to the regular limit.
Catch-up contributions are a good option for those who perhaps did not contribute a lot to their plans in the past, for those who waited until later in life to start saving for retirement, and for those who just want to ensure a comfortable retirement.
What Kinds of Contributions Can Employers Make to Retirement Plans?
Employers can make two different kinds of contributions to retirement plans:
In most retirement plans, your employer can make contributions, or elective deferrals, to your account on your behalf. In some plans, employer contributions are mandatory; in other plans, they are discretionary (optional).
Elective deferrals by employers are called matching contributions because the employer matches a certain amount per dollar contributed by the employee. For example, your employer might contribute 50% of your contributions, which means an additional $0.50 for every dollar you contribute. The matching amounts vary according to plan and employer.
Matching employer contributions are not taxable income (though the amount may be shown on your W-2).
Discretionary, or non-elective, employer contributions are allowed by some retirement plans. These are contributions made in addition to matching contributions, at the employer s discretion. Such a contribution must be made equally to every employee covered by the plan; it cannot be made only to certain individuals.
Discretionary contributions by employers are generally nontaxable income for you.
What Are the Limits to Retirement Plan Contributions?
The government imposes limits on how much money employers and employees (and the self-employed) can contribute to retirement plans. The table below summarizes the applicable limits from 2012-2016 for most employer-sponsored retirement plans (not including pensions–see the pension plan limits ). Overall contributions include all deferrals, employer contributions, and catch-up contributions.
*Or 100% of your salary, whichever is less. For example, if you had a 401(k) plan in 2016, you could contribute 100% of your salary to it if you earned under $18,000 for the year. (For 403 plans, a different figure is used instead of your salary, a number based on the current value of your benefits.)
** For 403 plans, this figure is different and depends on your years in service.
***Or 25% of salary/compensation, whichever is less .
There are different limits for different defined contribution plans, so we recommend consulting your plan administrator for the exact figures.
What Happens If My Contributions Are Over the Limit?
If deferrals were made that are over the contribution limit, they are called excess deferrals. Excess deferrals should be reported to your employer or plan administrator. You may request that the amount of your excess deferrals be paid out to you. The plan will have until April 15 of the following year, at the latest, to pay you the total amount of your excess deferrals.
After this, one of two things will happen:
- You withdraw the excess deferral amount on or before April 15 of the following year. In this case, the amount is not included in your gross income for the year and is not taxable income.
- You withdraw the excess deferral amount AFTER April 15 of the following year. Then, the amount must be included in your taxable income for the year in which it was deferred (contributed). The income may then effectively be double-taxed: once when it is contributed, and again when it is withdrawn later. Also, when you do withdraw the money, it may be considered an early withdrawal and come with a penalty. But if you leave the money in the plan indefinitely, the plan may no longer be considered qualified for tax benefits.
Are There Pension Plan Limitations?
Pension plans, or annuities, are a type of retirement plan, but they are not the same thing as a 401(k), an IRA, or other, more common retirement plans covered above. See the contribution limits for pension plans .
Related Information on Retirement Income and Taxes
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