Now that we are into a brand new year, it’s a good time to revisit your retirement accounts. Saving for the future doesn’t have to be complicated or time-consuming. Utilizing accounts that your employer or a bank sets up is the easiest way to do so.
The 401(k) and Individual Retirement Account (IRA) are popular choices. First, we look at how the IRS regulates the contributions to these, and then we will look at the changes for 2023.
The IRS and Retirement Accounts
The Internal Revenue Service (IRS) is a federal agency within the Department of the Treasury. Set up by the U.S. government, this agency is responsible for collecting taxes from individuals, businesses, and corporations. It issues tax refunds and enforces U.S. tax laws.
So, what does the IRS have to do with your retirement account? Because you are paying a portion of your earned income into these accounts, the IRS regulates how the taxes are paid on these. Tax must be paid on the money you contribute either before or after it is deposited.
The IRS also sets up contribution limits on the various types of retirement accounts. Those who earn higher incomes could wind up contributing larger amounts and take advantage of larger tax benefits. To keep things equitable and help the average wage earner, the IRS places limits on how much everyone can contribute.
The contribution limit amount changes each year. The amount is adjusted for inflation, and this year is no different. Let’s look at the changes for 401(k) and IRA accounts.
Changes to 401(k) Contribution Limits
It’s true: 401(k) plans are a no-brainer way to save for retirement. These plans make it easy to set up an autopay contribution each month. With many different types of 401(k)s and their benefits, it is important to familiarize yourself with them.
Many businesses offer a 401(k) plan to employees as a benefit. Some even have an employer match, meaning that when you contribute to your plan they will contribute a percentage to it, too. There are very few instances in life when you receive free money, and this is one of them!
The IRS allows older workers to make additional contributions above the normal limit since those over the age of 50 are closer to retirement. These older workers may need to “catch up” on their accounts because of earlier lost income or years where they were unable to contribute.
What are the changes to 401(k)s for 2023?
● The contribution limit for employees increases by $2,000 from last year to $22,500 per year.
● For those at the age of 50 and older, the catch-up contribution increases by $1,000 from last year to $7,500 additional which you can pay in.
● For those with employer matching, the total employee-employer contribution rises to $66,000 (catch-up contribution $73,500).
An additional change this year is the required minimum distribution (RMD) age rising from 72 to 73, meaning that employees have an additional year to contribute to their 401(k) before they age out. They also don’t have to take the mandatory distribution until age 73.
Changes to IRA Contribution Limits
Individual retirement accounts (IRAs) are a type of savings account that is offered by a bank, broker, or investment company. These are perfect for people who are either self-employed or work at a business that does not offer 401(k) plans. There are two main types of IRA accounts: traditional and Roth.
If you have a traditional IRA account, you contribute money to this account and subtract the amount from your taxable income. This reduces your taxable income for the year and gives you an immediate tax advantage. You will pay taxes on the money once you start your mandatory withdrawals from a traditional IRA starting at age 72.
With a Roth IRA, you contribute money to this account but pay the taxes on it that same year as part of your taxable income. You get no tax break. However, the money can compound and grow tax-free over decades and you do not have to pay taxes once you start withdrawing from the account.
Additionally, there is no mandatory withdrawal with a Roth IRA. Since there is no RMD, you are not required to withdraw any money from the account. This makes a Roth IRA a good way to leave a tax-free inheritance to children and grandchildren.
It is possible to have both types of IRA accounts.
What are the changes to IRAs for 2023?
● The contribution limit increases by $500 from last year to $6,500 per year.
● The catch-up amount remains the same at $1,000.
IRAs have established income limits. If you make over a certain amount of money, you may not be eligible for tax advantages. These income limits have also changed this year.
Traditional IRA:
● Singles with an annual income of less than $73,000 receive a full deduction from their taxable income on their contribution. Those who make between $73,000 and $83,000 receive a partial deduction and those who earn over $83,000 do not receive a deduction.
● Married couples filing jointly with a combined annual income of less than $116,000 receive a full deduction. Those who make between $116,000 to $136,000 receive a partial deduction, and those who earn over $136,000 do not receive a deduction.
Roth IRA:
● Singles with an annual income of less than $138,000 receive a full deduction. Those who make between $138,000 to $153,000 receive a partial deduction, and those who earn over $153,000 do not receive a deduction.
● Married couples filing jointly with a combined annual income of less than $218,000 receive a full deduction. Those who make between $218,000 to $228,000 receive a partial deduction, and those who earn over $228,000 do not receive a deduction.
Final Thoughts
Contributing regularly and consistently to a retirement vehicle like a 401(k) or IRA is important for financial stability in your later years. With the increase in contribution limits to these accounts this year, you can contribute more than ever and start saving for your future.