401k Contribution Limits And Rules For 2012

In the past when looking at the 401(k) account type and the rules associated with it, one thing I’ve talked about is how I’ve avoided contributing to my 401k because my company has never really done matching contributions. (If your company does match contributions, by the way, I’d highly recommend taking part as it can mean an instant return on your money.)

My strategy in the past has been contributing to a Roth IRA with Vanguard because it has more investment options, and the costs are generally lower.   Basically our plan at work has been one with only a few mutual fund options, and almost all of them were high cost.

In the past 6 months our company changed 401(k) plan administrators, and in the process our investment options got a lot better.  While there are still no 401(k) matching contributions, we now have more mutual funds to choose from, including a wide variety of low cost index funds.  We also now have two plan options, a regular 401(k) and a Roth 401(k).   That means we can  now diversify our investing to cover both pre-tax and post tax investing.  Nothing like hedging your bets when it comes to current and future tax rates and current and future income!

So once again I’ll be investing via my workplace by doing split contributions in my new 401(k) and Roth 401(k).   Today I thought I’d look at some of the 401k contribution limits, rules and regulations when it comes to the 401k portion of my investing plan, as the IRS released their new guidelines this week.

Details Of The 401(k)

I always start this out with quick overview of the 401(k) account type from Wikipedia:

A 401(k) is a type of retirement savings account in the United States, which takes its name from subsection 401(k) of the Internal Revenue Code. 401(k)s were first widely adopted as retirement plans for American workers, beginning in the 1980s. The 401(k) emerged as an alternative to the traditional retirement pension, which was paid by employers. Employer contributions with the 401(k) can vary, but in general the 401(k) had the effect of shifting the burden for retirement savings to workers themselves. In 2011, about 60% of American households nearing retirement age have 401(k)-type accounts.

Contribution Limits For 401(k)

The 401(k) has contribution limits tied into the plan. The 401k contribution limits have increased since last year due to an increase in the consumer price index.  The following table will show the maximum yearly contribution for the 401k account type every year since 2007.

The past 6 years have seen an increase of  $1500 in the contribution limits. For 2013 I wouldn’t expect any major changes, especially with the increase this year.

Employer Contribution Limits For 401(k)

If your employer is offering a contribution to your 401k, by all means take it!  It’s like getting a nice raise!  Usually employers will make a matching contribution of a certain percentage of your salary, for example 50% up to the first 6% of your salary.

Highly compensated individuals may also be subject to additional contribution limits put in place by their employer’s plan, so check with your plan administrator.

Catch-Up Contribution Limits For 401(k)

If you are at or over the age of 50 by the end of the 2012 tax year, you can also make catch-up contributions to your 401(k).  Not all plans allow this, but for the ones that do, here are the catch up contribution limits:

Do Employer Matching Contributions Affect Your Limit?

One question that I’ve heard quite a bit is whether an employer’s contributions to your 401k account will affect how much you as the employee can contribute.  Are the contribution limits shared?  The quick answer is no.  The employer and employee each have a separate contribution limit, effectively increasing the amount you can invest if you have employer contributions.

Example: If someone makes $100,000 in pre-tax compensation, and they contribute $17,000 and the employer contributes $6,000 by the employer for a total of $23,000. If they’re over 50 they could also make catch up contributions for a total of $28,500.

Other Things To Consider

There are other things you may need to consider with your 401(k) plan. For example,currently the max you can contribute to a401(k) plan is $50,000 or 100% of your compensation, whichever is less.  Also, if you’re a highly compensated individual at your company you may be subject to separate contribution limits.

Are you currently contributing to a 401(k) plan through your work? Tell us what you think about the limits, and if you’ll be able to reach them.