A new rule will start next year that targets high earners making “catch-up contributions” to their retirement plans, like 401(k)s. This change comes from the Secure 2.0 law and it’s a big deal for those over 50.
Right now, if you’re over 50 and max out your 401(k) contributions—which is $23,500 this year—you can add more money through catch-up contributions. This year, you can set aside an extra $7,500, or even $11,250 if you’re between 60 and 63, depending on your employer.
Previously, all your contributions could grow tax-deferred. This means you wouldn’t pay taxes on that money until you withdraw it in retirement, lowering your current tax bill. However, starting next year, if you earn more than $145,000 in a year and are over 50, any catch-up contributions will automatically be taxed. They will be treated as Roth contributions instead.
This change is significant because while you pay taxes upfront, your money grows tax-free and can be withdrawn tax-free later, as long as you follow certain rules.
Interestingly, a survey showed that 93% of workplace retirement plans now allow Roth 401(k) options. If your plan doesn’t support these options, you won’t be able to make catch-up contributions at all after the rule change.
For earners below $145,000, nothing changes. But for those affected, there are pros and cons. You might pay a higher tax rate now since you’re likely earning more. Brigen Winters, a principal at Groom Law Group, cautions that this shift means you’ll owe more taxes in your peak earning years, possibly reducing your take-home pay.
Still, there can be benefits as well. The money in your Roth will grow tax-free. Plus, you won’t have to withdraw minimum amounts from this account when you turn 73, thanks to Secure 2.0. This tax-free money can give you more options later on, especially because other income sources, like parts of Social Security, may be taxable.
In short, while this new rule may feel like a disadvantage now, it opens doors for tax-free growth and greater flexibility in retirement.
For further insights on retirement planning, you can check out resources from the Investment Company Institute for additional statistics and expert opinions.