401k contribution limits

A company sponsored 401k plan where the company matches a percentage of the employee’s contributions is such a great savings venue that many employees will want

to put as much as possible into their account. The tax savings alone make it a great investment.

401k contribution limits not related to income levels

There are however limits to the amount allowed by law that can be contributed by the employee into the 401k account each year. These limits are much higher than the $4,000-$5,000 limits placed on traditional and Roth IRAs. The amount also put into a 401k plan counts toward the maximum contribution for IRAs. In general, if an investor works for a company with a 401k plan, it is usually more profitable to put funds into that plan that are matched by the employer than into an IRA, depending on investment results.
 

Employee pre-tax 401k contribution limits

The generous limits for contribution to a 401k plan are flat rates and not a percentage of salary, although that is how the contributions are withdrawn from paychecks. In

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2003, the limit was $12,000. That increased to $13,000 in 2004 and will continue to increase in $1,000 increments until 2006 when the maximum 401k contribution allowed will be $15,000. After 2006, the allowable 401k contribution limit will increase by $500 increments annually to account for inflation. Like IRAs, 401k contributions limits are expanded for those who are over 50 years of age, as a method of “catching up” on retirement savings. Older workers can contribute an additional $4,000 for a maximum contribution of $18,000 in 2005. For 2006, those over 50 can contribute up to $20,000 into their company 401k plan.

Catch-up 401k contribution limits

If you are at least 50 years of age you may qualify for an additional $4,000 of catch-up 410k contribution limits in 2005.  In 2006 this will increase to $5,000, and in future years will increase in $500 increments to reflect inflationary cost of living adjustments. 

Total annual 401k contribution limits

Under the Economic Growth and Tax Relief Reconciliation Act of 2001, the total contributions of all sources combined (employee contributions, employer matching, profit sharing, and catch up contributions) have been increase from 25% of total compensation to 100% of compensation up to $42,000 per year for the year 2005. This is an increase from the previous maximum amount of $35,000.

Pay attention to the contribution details offered by your employer

These limits are set up by the government but there may be different rules from the employer and 401k administrator regarding matching funds. Keep in mind, that employers may have maximum amounts that they will match, even if it is less than the percentage of salary they normally match. In addition, if an investor is highly compensated, the employer may limit the amount they can contribute. All of these contribution rules and limitations must be clearly outlined for the employee under the Employee Retirement Income Security Act of 1974 (ERISA).

401k contribution limits for married individuals

For the average employee, there is not too much concern about reaching these maximum contribution levels. However, if both spouses in a marriage are working for employers with 401k plans, they can each contribute to their respective plans as outlined by Federal regulations and their employer’s own rules. In addition, if one spouse is employed and contributes to a 401k plan and the other works only part time or on a freelance basis, then the partner not covered by the 401k plan is entitled to contribute the maximum amounts to separate IRA accounts in his or her name. This allows the couple to save even more for retirement without impacting each other’s saving potential. It is important to note that the spouse not under the 401k plan must have their own source of income to qualify for a separate IRA or the amount in the 401k plan is counted against the IRA contribution limits for the year.