I often receive questions regarding 401k retirement plans and contribution limits. So thought I would use this article to answer common questions regarding contributions and associated limits to these widely used employer sponsored retirement plans.
Types of 401k Contributions
The first thing to understand is that there are two main types of contributions that go into 401k plans. One is your individual (as a worker or employee) contribution, or elective deferral, and the other is your employers, or matching contribution.
Secondly there are four annual contribution limits you need to be aware of : Your employee contribution (elective deferral) limit, catch-up contribution limits (for those over 50), employer contribution limits and maximum contribution limits. These are set by the IRS every year based on cost of living adjustments.
Current Contribution Limits
Per the updated table below the maximum employee (elective deferral) annual contribution limit across all 401k and 403b plans was $20,500 in 2022 per the IRS. In 2023 this level rose by nearly 10% to $22,500 reflecting record cost of living (a.k.a inflation) adjustments.
The maximum annual contribution (employer + employee) was $61,000 for 2022 and rises to $66,000 in 2023. This includes elective deferrals, employer matching and discretionary contributions, but excludes catch-up contributions for those over 50.
The catch-up contribution for those over 50 increases by $1,000 in 2023 to $7,500 ($6,500 in 2022). This was the first increase in several years.
In addition, the amount of employee compensation (especially for higher income earners) that can be taken into account when determining employer and employee pre-tax retirement plan contributions rises to $330,000 in 2023 vs $305,000 in 2022.
401K Maximum Employer Contribution Limits (Employer Match)
Matching 401K or 403b contributions made by your employer are not counted towards your annual employee contribution limit or 100% of your salary, whichever is the smaller amount.
But these additional employer contributions do count towards the maximum annual contribution limit, which includes both employee and employer contributions.
However most employers rarely give or match anywhere near the maximum, with most generally matching 3% to 6% of employee contributions.
Also note may employers have a vesting schedule for their matching contributions, which means employees may need to stay with the employer for a certain number of years to get the full matching contribution paid to them.
E.g., a 3-year vesting schedule, means it will take until the third year of employment for an employee to get the employer match deferrals fully paid or vested into their account.
401k Catch-up Contributions
If you are age 50 or over at the end of the calendar year, you are permitted to make additional, “catch-up”, elective deferral contributions.
These catch-up contributions are not subject to the annual general limits that apply to 401k plans.
The catch-up contribution you can make for a year cannot exceed the lesser of the annual catch-up contribution limit, or the excess of your compensation over the elective deferrals that are not catch-up contributions.
Additional total limits
In addition to the limit on elective deferrals shown in the table above, annual contributions to all of your accounts may not exceed 100% of your compensation.
Further, the compensation limitation that can be taken into account when determining employer and employee contributions is shown in the table below.
|Year||Annual Comp Limit||Highly Compensated Employee Threshold||Key Employee in Top-Heavy Plan|
401k Automatic Enrollment Sweep
Following legislation a few years ago to improve retirement savings rates, companies can now automatically enroll employees into 401k plans they sponsor. There are clear rules around communication timelines to employees, who can always opt-out of contributing at any time.
A 401K enrollment sweep automatically enrolls (or sweeps) all eligible employees – not just new hires during the year – into the company’s 401(k) plan at a preset contribution rate. Generally between 3% to 6% – which is a low deferral rate, and even for higher wage employees won’t bring them anywhere near the annual contribution limit.
The sweep is generally run at the beginning of the year (like Open Enrollment) so also increases deferrals for some participants who are below the automatic sweep rate.
By automating enrollment, it brings brings eligible nonparticipants into the company sponsored 401k plan or raises their deferral limit if were contributing less than the sweep percentage. It also enables participants to get the employer/company match (free money).
History and data has shown the automatic enrollment is actually a good thing, especially for new or younger employees, in setting them up for a more comfortable retirement.