Inflation’s effect on 2021 retirement contribution limits

The IRS released the dollar limits for 2021 qualified retirement plan contributions.  For 2021, employees’ and owners’ ability to defer compensation and invest for their future remains about the same as 2020. Because of low inflation, most of the common contribution levels were left unchanged, with defined contribution total dollar amounts (from employee and employer contributions combined) increasing by only $1,000. Although individual contribution levels have not increased, super savers ,who focus on saving the maximum allowed can take full advantage of their contribution(s) as follows:

2021 Contribution limits

• 401(k), 403(b), 457 plan employee deferral – $19,500
• Catch-up contributions (age 50+) – $6,500
• Defined contribution total dollar limit – $58,000
• Highly compensated employee limit – $130,000
• IRA contributions – $6,000
• Catch-up IRA contributions (age 50+) – $1,000

For more details, visit the IRS website.

Many employees are not saving enough, early enough

While retirement plan fiduciaries believe the limits are out of reach or exceed the savings needs of lower-income plan participants, under-savers that need to accelerate savings to get on track can benefit from reminders about the limits and encouraging savings increases. A Vanguard report How America Saves, showed that during 2019 only 12% of plan participants contribute the maximum amount yearly*; and, about half of those over the age of 55 and older have no retirement savings (such as a 401(k) or an IRA)**.

Higher wage earners also often under-save. Only 60% earning over $150,000 hit the limits*, and the consequences to their retirement lifestyle could be significant. Even if Social Security remains intact, it will replace less than 25% of the projected retirement income need for those earning more than $125,000, making independent savings essential.

Retirement plan design has evolved to encourage adequate savings through automatic enrollment and auto-escalation, but too many workers still delay retirement saving and then save too little. Delaying savings is a risk for many reasons, especially as you start to earn more.  Some workers earning over $130,000 may not have access to the full deferral limits every year.  As “highly-compensated employees” (HCE’s) they may have lower limits imposed on them if lower-paid workers at their company don’t participate, making plan design and participation critical.

There is some good news for certain HCE’s who are behind in their savings. The catch-up provisions that allow those over age 50 to contribute an additional $6,500 per year are not subject to the HCE restrictions, so even if their regular contributions are limited, they can still contribute the full $6,500 catch-up amount.

Contribute in line with your personal financial plan

Be sure to review the available retirement plans, limits, and investment options. Contributing up to the allowable limits may not always be the answer, but ensuring that you are contributing the right amount and in the right types of accounts for your situation will make a meaningful difference in your ability to retire when, and how, you envision.

*Vanguard 2020, Vanguard study of 5 million people.
** GAO study, 2015.