How the Maximum 401(k) Contribution Can Boost Your Retirement Savings

How the Maximum 401(k) Contribution Can Boost Your Retirement Savings

Are you making the maximum 401(k) contribution each year? The IRS-established limit for how much you can set aside in 2021 remains the same as last year, but depending on your age, you may be eligible this year to make catch-up contributions, which can be useful if you are approaching retirement and looking to boost your savings. Here we will discuss how contributing as much as you can to a 401(k) as early as possible in your career can help you maximize your retirement savings.

Understanding 401(k) Plans

A 401(k) is an employer-sponsored retirement plan that comes in two varieties: traditional 401(k) and Roth 401(k). Contributions and earnings for a traditional 401(k) plan are not taxed until the money is withdrawn. Roth 401(k) plans, which offer a combination of 401(k) and Roth IRA features, are funded with post-tax earnings. However, eligible withdrawals that are made during retirement may be tax-free.

401(k) plans are designed to help you make the most of your retirement savings. Your money can be amplified through a combination of the following plan features:

  • Long-term compounded growth.
  • Income tax savings.
  • Contributions from employer matching programs, in some cases.

You generally get to decide how much of your earnings will be put into your 401(k) plan if your employer makes one available to you. However, because a 401(k) plan can provide tax advantages, the IRS sets limits on how much money an individual can put into one without incurring an excessive contribution penalty. Maxing out your contributions within these limits can be a robust strategy for achieving your retirement funding goals.

401(k) Contribution Limits for 2021

As you plan out your 401(k) contributions, consider the following information about the 2021 limits provided by the IRS. If you are under the age of 50, your contribution limit this year is $19,500. People who are 50 or older and still working are eligible to set aside an additional $6,500, which brings their total maximum 401(k) contribution limit to $26,000. While this additional amount is commonly referred to as a "catch up contribution," you don't need to be behind on your contributions to be eligible for these additional elective deferrals, the IRS notes.

If you are eligible to participate in employer matching programs, the combined total limit for employer and employee contributions is $58,000. Be aware that you can't contribute more than your earned income for each year, and there may be limits on how much money overall can go into your 401(k), depending on what you earn. The IRS maximums apply to other retirement plans too, such as 403(b) plans and Thrift Savings Plans (TSP). Aggregate limits based on your age may be applicable to you if you participate in any of these in addition to contributing to a 401(k).

Boost Your Savings With the Maximum 401(k) Contribution

There are several strategies you can employ to achieve your retirement savings goals. Consider maxing out your contributions at the $19,500 limit if you are under 50, and then add $6,500 to that amount each year that you work after you turn 50, or until the IRS modifies the limit. If you aren't able to put aside the maximum 401(k) contribution, start with as much as you can and aim to increase that amount each year until you reach the limit.

Remember, contribution matching from your employer may not be reflected in your paycheck, but it's still money that you're earning by being an employee, so don't leave it on the table. Your individual contribution limit does not apply to any matching funds your employer puts into your account, so try to contribute at least enough to receive the maximum amount they will match while staying under the combined employer-employee contribution limit of $58,000.

Lastly, check to see if your employer allows contributions from bonuses. If so, you could use 401(k) tax advantages to increase the potential of those earnings and boost your retirement savings. Talking to a tax professional can help you plan your maximum 401(k) contribution and make the most of any available tax advantages.

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