Prioritizing and Maximizing Retirement Savings – Social Security Alone Won’t Be Enough
The Social Security Administration (SSA) recently announced the inflation-adjusted increase in benefits for 2019. SSA’s announcement states that Social Security beneficiaries should expect a cost-of-living increase of 2.8%. However, the same announcement says that for those who are retired at full retirement age, the maximum monthly benefit will go from $2,788 to $2,861, a 2.62% increase of $73 a month. Either 2.62% or 2.8% isn’t much in the overall scope of things, considering part of that increase goes to pay for Medicare premiums and co-pays for medication. Those retired with only Social Security income struggle just to survive month to month.
This should be a wake-up call for still-working individuals who are living (and spending) for the moment and have no, or minimal, retirement plans or retirement savings. It’s almost imperative that individuals include contributions into retirement savings in their budgets, in one form or another, or the inevitable golden years won’t be so golden.
Retirement Plan Options – The tax code includes a number of tax-favored ways to put away money for your retirement. However, in all cases, the amount that can be contributed is limited (except as noted) to an individual’s compensation for the year. The most popular plans include:
- Traditional IRAs – These allow individuals to contribute up to $5,500 in 2018 ($6,500 for those age 50 and over). The contribution is tax-deductible for individuals who are not active participants in an employer’s plan. For those who are active participants in an employer’s plan, the deductibility of the IRA phases out at adjusted gross incomes (AGIs) between:
|Unmarried||Married Filing Jointly||Married Filing Separate|
|$63,000 – $73,000||$101,000 – $121,000||$0 – $9,999|
Once the AGI exceeds the upper amount, none of the contribution is deductible.
Distributions from a traditional IRA are taxable (except for contributions that were not deductible because of the AGI phase-out of deductibility). The annual contribution limit applies jointly to both traditional and Roth IRAs, so no more than the annual limit can be contributed to a combination of the two types of IRA accounts.
- Roth IRAs – These allow individuals to contribute up $5,500 in 2018 ($6,500 for those age 50 and over). Contributions to Roth IRAs are not tax-deductible but provide the benefit of being tax-free when qualified distributions are taken. Contributions can be made even if the individual is a participant in a qualified employer retirement plan. However, allowable contributions are phased out for higher-income taxpayers in the AGI ranges shown below.
|Unmarried||Married Filing Jointly||Married Filing Separate|
|$120,000 – $135,000||$189,000 – $199,000||$0 – $9,999|
- Spousal IRAs – Spouses with no compensation for the year may contribute to their own IRA based upon their spouse’s compensation. If the unemployed spouse chooses a traditional IRA and the working spouse participates in an employer’s plan, the contribution’s deductibility phases out between $189,000 and $199,000; if a Roth IRA is chosen, the contribution limit also phases out between $189,000 and $199,000, even if the working spouse isn’t covered by an employer’s plan.
- 401(k) Plans – These are typically available through employers and allow an elective contribution of up to $18,500 for 2018 ($24,500 if age 50 or over). The employee funds the plan by choosing to have a portion of his or her wages deposited into it. Some employers will match a portion of an employee’s contribution, and when that benefit is available, it behooves the employee to contribute at least enough to get the maximum employer match. The amounts contributed to the plan, as well as the earnings and gains on the funds in the plan, are not taxed until withdrawals are made at retirement.
- SIMPLE Plans – SIMPLE (Savings Incentive Match Plan for Employees) plans, which are not that frequently encountered, can be utilized by employers with 100 or fewer employees. The plans require a 2% or 3% employer match, and the maximum annual contribution for 2018 is $12,500 ($15,500 if age 50 or over). These may be set up as either IRAs (but not Roths) or 401(k)s.
- Simplified Employee Pension Plans (SEPs) – These are plans that are relatively easy for a self-employed individual to establish. They are quite commonly used by self-employed individuals without employees and may also be used by self-employed individuals who are willing to make contributions on behalf of their employees. The contribution limit for the self-employed individual is the lesser of 25% of their compensation (which equates to 20% of the net profits from self-employment, after deducting the SEP contribution) or $55,000, for 2018. Contributions made on behalf of employees are deductible as a business expense, while the contributions for the self-employed individual are deducted as an above-the-line deduction on the individual’s income tax return.
Multiple Plan Limitations – If individuals wish to maximize their retirement contributions, they may become involved in more than one plan and end up with a combination of plans. This is where some overall limitations apply and where individuals can unknowingly make excess contributions, resulting in penalties and having to make corrective distributions.
- 401(k)s – It is not uncommon for individuals to have multiple employers, each with a 401(k) plan. This can possibly create a situation in which the employee makes an excess elective deferred compensation contribution. The annual maximum limit applies to all 401(k) contributions combined.
- Combinations of Deferred Income
Plans – There is
also a $55,000 limit for 2018 on the aggregate amount of all elective
deferrals made by an individual during the year. Plans affected by this
- o 401(k) plans,
- SEP plans,
- SIMPLE plans, and o
Tax-sheltered annuities (TSAs, also referred to as 403(b) plans)
However, Code Sec. 457 plans (government plans) are not included in the overall deferral limitations
- IRAs – The IRA limits apply to the aggregate contributions to traditional and Roth IRAs. However, an individual can have both an IRA and deferred income plans.
Saving for retirement is extremely important, even if it means cutting back on discretionary spending. The retirement plan options vary, and it can be hard to understand all of the options and their long-term benefits. Be sure to reach out to your Lewis & Knopf advisor for additional guidance.