People who need to catch up on their retirement savings have some good news when it comes to investing in 2020. The IRS recently announced some inflation-adjusted figures for retirement accounts, including contribution limit increases for 401(k)s and most other options, with the exception of the traditional IRA. For all people, the contribution limit for employer-sponsored plans will increase from $19,000 to $19,500. Those over the age of 50 will be able to save an additional $6,500, up from $6,000, in catch-up contributions.
Overall, people who are 50 or older will be able to put up to $33,000 in tax-advantaged accounts next year. While these numbers may seem unreachable, a large number of people have historically maximized their savings. Last year, 13 percent of all employees with retirement accounts saved the maximum, and 15 percent of people over the age of 50 took advantage of the catch-up limits. Of course, high earners are among the people most likely to save. About 60 percent of people earning over $150,000 contributed the maximum, inclusive of catch-up contributions. However, there are also benefits for saving among people in lower income brackets, which will be discussed below.
Important New Regulations Regarding Deduction Phase-Outs
In 2020, higher limits will apply to people who want to deduct their contributions to a traditional pre-tax individual retirement account (IRA). Importantly, people can still contribute to an IRA if they earn more than these limits, but they will not have the ability to deduct these contributions.
Taxpayers will not be able to deduct contributions to traditional IRAs if they are filing as a single person or head of a household, have access to a workplace retirement plan, and have modified adjusted gross incomes between $65,000 and $75,000, up from $64,000 and $74,000 in 2019. For married couples who file jointly, the income phase-out range has been increased to $104,000 and $124,000, up from $103,000 – $123,000.
Different limits apply to IRA contributors who do not have coverage by a workplace retirement plan but are married to someone who does. These individuals will have deduction phase-outs if their joint income is between $196,000 and $206,000, a significant increase from the 2019 limits of $193,000 and $203,000.
The inflation adjustments are also beneficial for people with Roth IRAs, which are funded with after-tax contributions to avoid taxation at withdrawal. Singles and heads of household now face a phase-out range of $124,000 to $139,000, up from $122,000 to $137,000 for 2019. Married couples who file jointly will see a phase-out range from $196,000 to $206,000, up from $193,000 to $203,000.
The other important thing to note about Roth IRAs is that people who earn too much to be eligible for these accounts will be able to establish a nondeductible IRA and then convert it to a Roth IRA, a strategy known as a backdoor Roth. Congress has completely lifted the income restrictions on Roth IRA conversions.
How the Inflation Adjustments Affect Other Retirement Accounts
Small business owners and people who are self-employed will also benefit significantly from the recently announced IRS adjustments. These individuals often opt for a solo 401(k) or a SEP IRA. In 2020, the maximum they can save in these accounts will increase from $56,000 to $57,000. This number is derived from the amount that can be contributed as an employer and is a percentage of an employee’s salary in the case of a small business owner. Limits also apply to how much of someone’s compensation can be used in the calculation. Formerly, the limit was $280,000, but for 2020 the new figure is $285,000.
Some people have defined benefit plans, which are individual pension plans that resemble those that were once offered in the corporate world prior to the advent of 401(k)s. These accounts can be very beneficial for high-earning individuals who are self-employed. In 2019, the limitation on the annual benefit of this plan was $225,000, but that number will increase to $230,000 in 2020. Limits on SIMPLE retirement accounts are also increasing from $13,000 to $13,500. However, the SIMPLE catch-up limit will hold steady at $3,000. People interested in a qualified longevity annuity contract (QLAC) will now be able to invest up to $135,000 from their IRA or 401(k).
Unfortunately, as mentioned above, the limit on annual contributions to an IRA, whether Roth or traditional, has not been changed from last year: it remains at $6,000. Likewise, the catch-up contribution limit for these accounts remains at $1,000.
However, retirement investors should not forget about the saver’s tax credit, which applies to low- and moderate-income employees. The limit for this credit is $65,000 for a married couple, which is $1,000 higher than last year, and $48,750 for heads of household, which is also an increase. Individuals filing singly or separately can claim the credit if they make less than $32,500. This is an increase of only $500 from last year, but it could help many more people qualify for the credit, which encourages them to save.