Generation 42

Archive for December, 2009

The percentage and the amount you can contribute will vary from employer to employer. Regardless of the percentage your company allows, the maximum dollar amount the government generally allows is $9,500 per year for 401(k) plans and $6,000 for SIMPLEs, but this number is tied to inflation and allows incremental increases of $500 as the need arises. If inflation rises just 2 percent this year, that’s only a $190 increase ($9,500 x 2%) in your 401(k), for example, so the government will wait until that increase is at least $500 before raising the 401(k) contribution limit. If inflation stayed at 2 percent for three years, the government would raise the limit after those three years. The same theory applies to the SIMPLE contribution limit.
In addition, with a 401(k) the government has interesting regulations that affect how much you can contribute if you are making a lot, $80,000 or more. (This figure also changes for inflation.) When you earn this kind of money, the government considers you to be a “highly compensated employee,” and out of fairness to all employees they do not want the average percentage for those earning $80,000 or more and putting the maximum into the plan to be far greater than the average percentage of all other employees who are not as highly compensated. A plan where the higher-paid individuals contribute much more than the lower-paid is called “top-heavy.”
This means that if you are highly compensated in the government’s eyes, you might not even be able to contribute the full $9,500 to your 401(k). In fact, if employees at your company who are less well paid are not putting in anything at all, you may not be eligible to contribute anything whatsoever. Make sure your plan administrator has addressed this potential problem. Otherwise, if you are highly compensated and have put too much in your plan, they’ll have to give the money back to you, and it will be taxed as ordinary income. One advantage of a SIMPLE is that it’s not subject to these rules, so even if lower paid employees are not putting in a penny, you can still put in up to $6,000 if you want to, which you surely will.