End of 2020: Retirement Contributions & 2021 Retirement Rule Changes

Saving for retirement can be stressful enough, and then you get hit by a global pandemic. Facing Covid’s worldwide pandemic and a presidential election that can change the tax code in the same year has left many people reevaluating their financial situations. As you continue to plan and save for our future, it is important to understand the changes that 2020 has brought and  what can best on the horizon in 2021. 

Make Sure You Meet The 401(k) Contribution Deadline 

Every dollar you contribute to your 401(k) account in 2020 can save you money on your 2020 tax return. Still, to save as much as possible, you should do your best to make sure you meet the contribution deadline!

The contribution limit for 401(k) plans in 2020 is $19,500, and those that are 50 or older can contribute an additional $6,500 catch up contribution. Contributions to a 401(k) account are due by the end of the calendar year, so it is crucial that you contribute the maximum amount possible before the end of the year. By doing so, you can save as much as possible on your 2020 tax return. If you contribute via payroll, do note that it sometimes takes one to two pay periods for a company to process the contribution. So you should plan to reach the contribution limit before your last pay period of the year. 

Distributions for COVID-19 Relief 

sThose affected by the COVID-19 pandemic can withdraw $100,000 from a 401(k) or IRA between January 1, 2020, and December 31, 2020, without facing the 10% early withdrawal penalty. To qualify for this relief distribution, you, a spouse, or a dependent must have tested positive and been diagnosed with COVID-19, or you must have experienced financial hardships as a result of the pandemic. Relief distributions from tax-deferred accounts will be subject to income tax; fortunately, it can be paid over a three-year period. 

Required Minimum Distributions

Each year after age 72, required minimum distributions from 401(k) plans and traditional IRAs must be taken by December 31. If an individual does not take the required minimum distribution, there is a penalty of 50% of the amount that should have been withdrawn, plus income tax on the distribution.  However, a provision in the CARES Act allows individuals to skip their required minimum distribution in 2020 with no penalty. Those who do not need the money can leave the funds in their retirement account.

Retirement Rule Changes in 2021

On October 26, 2020, the Internal Revenue Service (IRS) released Notice 2020-79, which announced the cost-of-living adjustments and other changes that affect retirement contributions for the 2021 tax year. Understanding these new changes will be very helpful to retirement savers in adjusting their retirement savings accordingly.

Employer-Sponsored Retirement Plans  

The contribution limit for 401(k), 403(b), and other 457 plans remains at $19,500 for 2021. The catch-up contribution limit remains at $6,500, making the contribution limit for those 50 and older at $26,000. The overall contribution limit (the combined employee and employer deposits,) has increased from $57,000 to $58,000 or $64,500 for those 50 or older. 

Because the compensation limit has increased from $285,000 to $290,000 once an employee’s salary reaches $290,000, they are no longer able to receive an employer’s match to their deposits. Due to this, the plan can elect to stop the employee’s salary deferrals as well.  

Individual Retirement Account 

The annual contribution limit for IRAs remains at $6,000, and the catch-up contribution limit remains at $1,000 for individuals that are 50 or older. Although these contribution limits did not change, the phase-out ranges for IRA contribution deductions have increased for 2021. 

Taxpayers can deduct traditional IRA contributions each year on their tax returns. If an employer-sponsored plan covers the IRA contributor or their spouse, the deduction amount is phased-out, based on their filing status and income. The changes to the phase-out ranges for 2021 are as follows: 

• For single taxpayers also covered by a workplace retirement plan, the phase-out range increased from $65,000 – $75,000 to $66,000 – $76,000. 
• For a married individual that files a separate return and is covered by a workplace retirement plan, the phase-out range remains $0 – $10,000.
• For married couples filing jointly (where the spouse making the IRA contribution is covered by a workplace retirement plan) the phase-out range increased from $104,000 – $124,000 to $105,000 – $125,000.
• For married couples filing jointly, where the IRA contributor is not the one covered by a workplace retirement plan, phase-out range is based on the couple’s combined income. The phase-out range increased from $196,000 – $206,000 to $198,000 – $208,000 

The deduction phase-out ranges also increased for Roth IRAs. For single and head of household contributors, the phase-out range increased from $124,000 – $139,000 to $125,000 – $140,000. For married couples filing jointly, the range increased from $196,000 – $206,000 to $198,000 – $208,000, and for a married contributor that files a separate return, the range remains from $0 – $10,000. 

The Saver’s Credit

As a way to encourage and help lower income individuals save for retirement, the IRS offers the “Saver’s Credit,” also known as the Retirement Savings Contribution Credit. This credit can be worth 10%, 20% or 50% of your retirement contributions depending on your filing status and your adjusted gross income. The credit is worth a max of $1,000 for individuals and $2,000 for joint filing couples.

The income limit for the Saver’s Credit has increased for 2021, climbing from $65,000 to $66,000 for joint filing couples, from $48,750 to $49,500 for heads of household, and from $32,500 to $33,000 for singles and married individuals that file separately. 

Going Forward 

As 2020 comes to an end and you begin the new year, it is important that your financial plans adapt and change with all of these new rules. Planning with a financial advisor can help you evaluate your financial goals and find the best courses of action to ensure that you achieve them. With these changes, you may be able to increase the contributions for your retirement, or you may qualify for new deductions on your tax return. Discussing your situation with a financial advisor is a great way to ensure that you capitalize on the new changes coming in 2021 and stay up to date with any changes that follow.