IRS: 401(k) And IRA Contribution Limits Will Jump In 2023
The IRS has announced an increase to the contribution limits for 401(k) plans and individual retirement accounts (IRAs) for the year 2023.
Starting in 2023, the IRS has announced, young workers will be able to contribute up to $22,500 pre tax to a 401(k) or similar retirement savings plan, an increase of $2,000 from the current cap of $20,500. Age-eligible individuals can now save up to $30,000, an increase of $3,000; this includes a "catch-up" contribution of $7,500, up from $6,500 in 2022. As a result, workers who are currently contributing the maximum and have the ability to save more will effectively be able to offer themselves a tax break.
The IRS also announced that the limit for contributions to a pre-tax or Roth IRA will increase to $6,500 in 2023, up from the current level of $6,000. Those who are 50 or older are eligible to make a catch-up IRA contribution of $1,000 (this amount is not adjusted for inflation). In the meanwhile, the annual limit an employee can put into a Simple IRA Plan (a retirement program tailored to small enterprises) will increase to $15,500 from the current $14,000 in 2023.
With the inflation rate at a 40-year high, it was expected that the contribution limits would rise. According to Mercer, the limit rises are all the largest in history. (The inflation rate was this high the last time automatic adjustments weren't a part of the tax code.) Last week, the Internal Revenue Service announced a series of cost-of-living adjustments, such as greater standard deductions and tax brackets and larger taxable gifts and estates. Cost of living adjustments of 8.7 percent for 2023 were also announced by the Social Security Administration, automatically increasing benefits for 70 million Americans.
In Notice 2022-55, the IRS lays out all the changes that will be made to retirement plans.
Here's more about the changes that will be made to retirement plans in 2023:
The new $22,500 and $30,000 limits apply to employee contributions that are made either before taxes or to a Roth account in a 401(k) plan or to similar plans run by non-profit and government employers, such as 403(b) plans, most 457 plans, and the federal government's Thrift Savings Plan for workers.
There is also a cap on how much can be put into an employee's 401(k) each year, including contributions from the employer. Younger workers will see their pay go from $61,000 to $66,000, while older workers will see their pay go from $67,500 to $73,500. Some plans let workers add more money to their own contributions to reach the limit, so this number may be important to the highest-paid workers. Top-up contributions can only be made with money that has already been taxed. They don't go into a Roth.
The way it works is that contributions made before taxes reduce your current tax bill and grow tax-free, but all withdrawals made after retirement are taxed (with certain exceptions for money transferred directly to charity). Roth contributions are made after taxes are taken out, and when the money is taken out in retirement, it is not taxed. Earnings from contributions made after taxes are just tax-deferred, and only the contributions themselves are tax-free.
Related: Roth IRAs Explained - Everything You Need to Know
IRA Contributions And Income Limits
The amount you can put into an IRA is going up from $6,000 to $6,500, but that's not the only number that's been changed to account for inflation. You can't make a tax-deductible contribution to an IRA unless you don't have a workplace retirement plan or your income is below a certain limit. In 2023, the deduction will be phased out for single taxpayers making between $73,000 and $83,000 (up from $68,000 to $78,000) and for married couples filing jointly making between $116,000 and $136,000 (up from between $109,000 and $129,000). If your spouse has a workplace plan and you don't, your IRA deduction phases out between $218,000 and $228,000 in 2023. In 2022, this range was between $204,000 and $214,000.
At the same time, the income limits for contributing to a Roth IRA, which are higher than those for a pre-tax IRA, are also going up sharply. (It's important to know that the contribution limit for both a pre-tax IRA and a Roth IRA is $6,500/$7,500. Roth IRAs are often seen as good accounts to put money into because they are so flexible. You can always take out your original contributions from a Roth IRA without having to pay tax penalties like you might if you took money out of another account before retirement. In fact, Roth IRAs can be used as emergency savings accounts by young savers.
In 2023, the amount of income above which you can't contribute to a Roth IRA goes up from $129,000 to $144,000 to $138,000 to $153,000. This year, the phase-out range was from $204,000 to $214,000. Next year, it will be from $218,000 to $228,000.
Related: Should You Prioritize a Roth 401k or 401(k)?
SEP IRAs and Solo 401(k)s
These plans are made for people who work for themselves or who own small businesses. In 2022, the most you can save in a SEP IRA will be $61,000. In 2022, that amount will go up to $66,000. This is a contribution from the employer and is based on total earnings. Up from $305,000 in 2022, a self-employed person can now contribute up to 20% of their income up to $330,000.
The total amount you can put into a Solo 401(k), which is a 401(k) for people who work for themselves, is going up from $61,000 to $66,000 for people under 50 and from $67,500 to $73,500 for people 50 and older. That's the same as the limit for 401(k)s in general. One part is the employee contribution, which has the same limits as any other 401(k): $22,500 in 2023 for workers under 50 and $30,000 for those 50 or older. The other part is the contribution from the employer, which is based on how much you make. One benefit of a Solo 401(k) is that the employee contribution part lets self-employed people save a lot of money with less income than they could with a SEP IRA. Another benefit is that people over 50 can make a "catch-up" contribution to their Solo 401(k), but not to their SEP IRA.
Related: Should I Save in a 401(k)?
This is a tax credit that helps low- and middle-income workers save for retirement by matching some of what they put into an IRA or workplace plan (at a rate of 10% to 50%). The credit phases down and out as a taxpayer’s income rises. In 2023, the credit will end for married couples filing joint tax returns at $73,000, up from $68,000; for single people and couples filing separately, it will end at $36,500, up from $34,000; and for heads of household, it will end at $54,750, up from $51,000.
Defined Benefit Plans
Congress has set (and adjusted for inflation) a limit on how much of a worker's salary can be used to figure out his future benefit. This affects how much can be put into a plan for that worker. In 2023, the most that person can earn will be $265,000. In 2022, it was $245,000. The use of defined benefit plans has declined at big companies, but older small business owners have increasingly been using custom designed defined benefit plans to sock away huge amounts on a pre-tax basis.
The most you can put from your IRA or 401(k) into a qualified longevity annuity contract will go up from $145,000 to $155,000 in 2023. A QLAC gives you money in the future. It is seen as a way to make sure you don't run out of money or pay for long-term care costs later in life. The lifetime limit of $155,000 is not a limit for each year.
Talk things over with your tax advisor or financial advisor to come up with a strategy that will benefit you the most!
I hope this information was helpful. If you have any questions, feel free to reach out. I’d be happy to chat with you.
About the Author
As Managing Partner of Vincere Wealth, Josh assists clients in navigating financial challenges and making sound financial decisions. Having someone guide you in making sensible financial decisions today can have a substantial impact on your future financial wellbeing. Josh takes great pride in guiding customers through the complexities of taxes, real estate, businesses, employer stock, and international financial planning.
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