The Internal Revenue Service announced today that young workers will be able to contribute up to $22,500 before taxes to a 401(k) or similar retirement savings plan in 2023, a jump of $2,000 from the current limit of $20,500. Those 50 and older will be allowed to save up to $30,000, an increase of $3,000, which includes a $7,500 “catch-up” contribution, up from a $6,500 contribution in 2022. That means employees who are already contributing to the maximum and are able to save more may, in effect, be granted a tax reduction.
At the same time, the IRS said, the limit for contributions to a pre-tax IRA or Roth account will increase next year to $6,500, up from the $6,000 level where it has been stuck for four years. People age 50 and older can make an additional $1,000 catch-up contribution to an IRA, a number that is not subject to adjustment for inflation.
Meanwhile, the maximum contribution an employee can make to a Simple IRA Plan, a retirement plan designed for small businesses, will increase to $15,500 in 2023, from $14,000.
The contribution limit increases were widely anticipated as they are based on the rate of inflation, which is now at a 40-year high. According to benefit consultant Mercer, the limit increases are the largest in history. (The last time inflation was this high, automatic adjustments weren’t part of the tax code.)
Last week, the IRS released a host of other adjustments for inflation, including higher standard deductions and tax brackets and increases in the amount of wealth that can be transferred without gift or estate taxes. The Social Security Administration also announced an 8.7% cost-of-living adjustment for 2023, an automatic increase in benefits for 70 million Americans.
The full set of IRS adjustments to retirement plans is available here in Notice 2022-55.
Here’s more you need to know about retirement adjustments for 2023.
The new limits of $22,500 and $30,000 apply to employee contributions before taxes or to a Roth account in a 401(k) plan, or similar plans maintained by nonprofit and government employers: 403(b) plans, the most 457 and the Thrift Savings Plan for federal government workers.
There is also an overall limit (including employer contributions) on how much can be put into any one employee’s 401(k) each year. That will rise from $61,000 to $66,000 for younger workers and from $67,500 to $73,500 for those over 50, who get that boost to catch up. Higher-paid employees may find that number relevant, as some plans allow workers to top up their own contributions toward the limit. Additional contributions must be made with after-tax dollars and do not go to a Roth.
Here’s how it works: Pre-tax contributions reduce your current tax bill and increase your tax deferral, but all your withdrawals in retirement are taxable (with certain exceptions for money transferred directly to charity). Roth contributions are made after-tax, and all earnings on them (as well as original contributions) are tax-free when withdrawn in retirement. Earnings from after-tax contributions are simply tax-deferred and only the original contributions are tax-free.
IRA contributions and income limits
While the amount you can contribute to an IRA is increasing from $6,000 to $6,500, that’s not the only figure that has been adjusted for inflation. You can’t make a tax-deductible contribution to an IRA unless you don’t have a workplace retirement plan or your income is below certain limits. By 2023, the deduction will phase out for single filers earning between $73,000 and $83,000 ($68,000 to $78,000) and married couples filing jointly earning $116,000 to $136,000 ($109,000 to $129,000). If your spouse is covered by a workplace plan and you are not, your deduction for an IRA phases out from $218,000 to $228,000 in 2023, from $204,000 to $214,000 in 2022.
At the same time, the income limits for making a contribution to a Roth IRA, which are higher than those of a pre-tax IRA, are also rising sharply. (Important note: Pre-tax and Roth IRAs are subject to the same contribution limit of $6,500/$7,500. Roth IRAs are generally considered a desirable account to fund because they are very flexible: you can always take your original contributions out to an account Roth IRAs without facing the kind of tax penalties that can affect pre-retirement withdrawals from other accounts (in fact, Roth IRAs can even function as an emergency account for young savers).
The income phase-out for Roth IRA contributions for singles and heads of households will be $138,000 to $153,000 in 2023 ($129,000 to $144,000). For married couples filing jointly, the phase-out range will be $218,000 to $228,000, up from $204,000 to $214,000 this year.
SEP IRA and 401(k) Only
These are plans designed for freelancers and small business owners. The most that can be saved in a SEP IRA will be $66,000, up from $61,000 in 2022. That’s considered an employer contribution and is based on total earnings. A self-employed person can actually contribute up to 20% of earnings up to $330,000, up from $305,000 in 2022.
The limit for total contributions to a Solo 401(k)—a 401(k) for self-employed people—is increasing from $61,000 to $66,000 for younger people and from $67,500 to $73,500 for people age 50 and older. That’s the same as the general limit for regular 401(k)s. One part is the employee contribution, which has the same contribution limits as any other 401(k): $22,500 in 2023 for younger workers and $30,000 for those age 50 and older. The other part is the employer contribution and is based on income. One advantage of a Solo 401(k) is that the employee contribution portion allows self-employed workers to save large amounts at lower income levels than with a SEP IRA. Another advantage is that people over age 50 can make an additional catch-up contribution to a Solo 401(k), but not to a SEP IRA.
This is a tax credit designed to encourage low- and moderate-income workers to save for retirement by matching (at a rate of 10% to 50%) part of what they contribute to an IRA or work plan. The credit decreases and disappears as the taxpayer’s income increases. In 2023, the credit will phase out to $73,000 for married couples filing joint tax returns (instead of $68,000); $36,500 for singles and couples filing separately (up from $34,000); and $54,750 for heads of households (vs. $51,000).
Defined benefit plans
The amount that can be put into a plan for any one worker is affected by a limit set by Congress (and adjusted for inflation) on how much of that worker’s salary can be considered in calculating your future benefit. That maximum salary in 2023 will be $265,000, up from $245,000. The use of defined benefit plans has declined at large companies, but older small business owners have increasingly been using custom-designed defined benefit plans to save large amounts before taxes.
The dollar limit on the amount of your IRA or 401(k) that you can invest in a qualified longevity annuity contract will increase in 2023 to $155,000 from $145,000. A QLAC pays you money at some point in the future and is seen as a way to keep your money from outliving or covering long-term care expenses later in life. The $155,000 is a lifetime limit, not an annual limit.