As we close out 2015, it is time to make sure we are getting the most out of our retirement plan(s). There are probably a few employers out there that still offer defined benefit plans, but since the vast majority of those plans have been forced to the shoulder in favor of defined contribution plans, we will not focus on them here. We will discuss the most common defined contribution plans out there, and what we as tax-paying citizens can do to maximize their value to our retirement portfolio.
Traditional 401(k) Plan – this is the real work horse of the retirement plan arsenal, and nearly 80% of working Americans have access to a 401(k) plan, and 80% of those participate in the plan. These are tax deferred, defined contribution plans, usually accompanied by an employer matching program. There is also what is commonly referred to as a Safe Harbor 401(k) plan. The Safe Harbor 401(k) plan is designed to meet certain criteria, and doing so allows employers to avoid annual contributions testing. The common characteristics of these plans are (data for 2015):
- Maximum Employee Contribution – $18,000, plus $6,000 make-up contribution for employees over age 50.
- Employer Maximum Contribution – Lesser of 100% of salary or $53,000.
- Combined Contribution Maximum – $53,000.
Key takeaway – since 401(k)s in this category are tax-deferral opportunities, additional contributions could help mitigate current year taxes, but it is critical that any additional contributions are made prior to the end of the year. Since the contributions are made through payroll adjustments, modifications might be difficult late in the year, or potentially forbidden by plan documents.
Individual Retirement Accounts (IRAs) – with the availability of 401(k) plans and the related employer match, IRA popularity is more limited. In addition, the contribution limits with an IRA are much lower than those found in the 401(k) vehicle: $5,500 per year, plus an additional $1,000 for taxpayers over 50 years of age. The IRA also offers tax-deductible contributions for those taxpayers not participating in an employer-sponsored plan.
Key takeaway – IRAs have one distinct advantage over 401(k) distributions – the deadline for contributions. Taxpayers have the opportunity to make 2015 contributions to their IRA account until April 16, 2016.
Retirement Plans for Small Businesses – there are several alternatives for small employers to provide retirement benefits to their employees. Here are some of the basics:
- Simplified Employee Pensions (SEPs) – employees can contribute up to 25% of compensation, but no more than $53,000.
Key takeaway – these contributions can be made up to the due date (including extension) of the employer return.
- SIMPLE IRA Plan
- Employees can contribute $12,500 plus an additional $3,000 for participants over 50 years of age. These contributions must be made within 30 days of the end of the month in which the contribution is to be made.
- Employers can either match 100% of an employee’s elective contributions up to 3% of his compensation or provide a non-elective contribution of 2% of each eligible employee’s compensation. The employer contribution should be made by the due date, including extension, of the employer return.
The Final Word – Roth Investments – when the Roth alternative first surfaced, it was immediately a popular option. However, taxpayers might think twice before using a Roth vehicle. Here is why: The whole principle behind Roth is to pay tax now in exchange for tax-free treatment at withdrawal. Since most taxpayers will be in much lower tax brackets in retirement than they are when they are earning a healthy wage, it might make sense to put pencil to paper to make sure the Roth vehicle makes sense. Should you choose to go that route, remember that Roth eligibility phases out at higher AGI levels – between $183,000 and $193,000 for married-filing-jointly taxpayers, and between $116,000 and $131,000 for single and head-of-household taxpayers.
Employees and employers alike, if you want to discuss how you can use retirement plan contributions in the context of tax planning, contact PYA at (800) 270-9629.
