High-Earning Retirement Savers Are Losing Some of Their 401(k) Tax Break
Millions of high-earning Americans are slated to lose a popular tax deduction starting next year. Savers ages 50 and older can make catch-up contributions in their 401(k) accounts each year, with eligible workers allowed to put an extra $7,500 into their accounts, for a total of $30,000, this year.
Starting next year, those catch-up funds will be funneled only into after-tax Roth accounts for those who earned more than $145,000 the previous year. The change is part of a set of new rules Congress passed in December. In 2022, 16% of eligible participants took advantage of catch-ups, according to Vanguard Group.
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Retirees with nest eggs in traditional accounts must pay ordinary income tax when they withdraw the money. In Roth accounts, workers can build a pot of tax-free money to spend in years in which tapping other accounts would push them into a higher tax bracket or force them to pay higher Medicare premiums. Many assume they will be in a lower tax bracket in retirement, but that isn’t always the case, said Ed Slott, an adviser who specializes in retirement accounts. Because high earners often amass large balances in traditional 401(k)s and individual retirement accounts, many find themselves in the same or a higher tax bracket when the Internal Revenue Service requires them to start pulling money out of those accounts at age 73.
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Though the change is set to kick in Jan. 1, some companies and plan providers say they need more time to meet the logistical challenges of identifying who earned more than $145,000 the previous year and retooling payroll and other systems to ensure their catch-ups go into a Roth. More than 200 employers, 401(k) record-keepers, and payroll providers recently sent a letter to Congress requesting a two-year delay. Signed by companies including Delta Air Lines, Anheuser-Busch, and Fidelity Investments, which administers 24,800 corporate retirement accounts for employers, the letter says many won’t be able to change their systems in time to meet the deadline.
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