What are Catch-Up Contributions?
RETIREMENT - READ TIME: 4 MIN
A recent survey found that 28% of workers are very confident about having enough money to live comfortably through their retirement years. At the same time, 27% are not confident. 1
In 2001 congress passed a law that can help older workers make up for lost time. But few may understand how this generous offer can add up over time. 2
The “catch-up” provision allows workers who are over age 50 to make contributions to their qualified retirement plans in excess of the limits imposed on younger workers
How it Works
Contributions to a traditional 401(k) plan are limited to $20,500 in 2022. Those who are over age 50 – or who reach age 50 before the end of the year – may be eligible to set aside up to $27,000 in 2022. 3
Setting aside an extra $6,500 each year into a tax-deferred retirement account has the potential to make a big difference in the eventual balance of the account. And by extension, in the eventual income the account may generate. (See accompanying chart.)
Catch-Up Contributions and the Bottom Line
This chart traces the hypothetical balances of two 401(k) plans. The blue line traces a 401(k) account into which $20,500 annual contributions are made each year. The green line traces a 401(k) account into which an additional $6,500 in contributions are made each year, for a total of $27,000 in contributions a year.
Upon reaching retirement at age 67, both accounts begin making withdrawals of $6,000 a month.
The hypothetical account without catch-up contributions will be exhausted by the time its beneficiary reaches age 81. Keep in mind, the IRS regularly updates these maximum contribution limits.
This hypothetical example is used for comparison purposes and is not intended to represent the past or future performance of any investment. Fees and other expenses were not considered in the illustration. Actual returns may vary.
Both accounts assume an annual rate of return of 5%. The rate of return on investments will vary over time, particularly for longer-term investments.
In most circumstances, you must begin taking required minimum distributions from your 401(k) or other defined contribution plan in the year you turn 72. Withdrawals from your 401(k) or other defined contribution plans are taxed as ordinary income, and if taken before age 59½, may be subject to a 10% federal income tax penalty.
1. EBRI.org, 2022
2. Economic Growth and Tax Relief Act of 2001
3. IRS.gov, 2022. Catch-up contributions also are allowed for 403(b) and 457 plans. Distributions from 401(k) plans and most other employer-sponsored retirement plans are taxed as ordinary income and, if taken before age 59½, may be subject to a 10% federal income tax penalty. In most circumstances, you must begin taking required minimum distributions from your 401(k) or other defined contribution plan in the year you turn 72.
