| 2023 Traditional IRA Deduction Limits | ||
|---|---|---|
| If your filing status is… | And your modified AGI is… | Then you can take… |
| Single, head of household, qualifying widow(er), married filing jointly or separately and neither spouse is covered by a plan at work | Any amount | A full deduction up to the amount of your contribution limit |
| Married filing jointly or qualifying widow(er) and you're covered by a plan at work | $116,000 or less | A full deduction up to the amount of your contribution limit |
| More than $116,000 but less than $136,000 | A partial deduction | |
| $136,000 or more | No deduction | |
| Married filing jointly and your spouse is covered by a plan at work but you're not | $218,000 or less | A full deduction up to the amount of your contribution limit |
| More than $218,000 but less than $228,000 | A partial deduction | |
| $228,000 or more | No deduction | |
| Single or head of household and you're covered by a plan at work | $73,000 or less | A full deduction up to the amount of your contribution limit |
| More than $73,000 but less than $83,000 | A partial deduction | |
| $83,000 or more | No deduction | |
| Married filing separately and either spouse is covered by a plan at work | Less than $10,000 | A partial deduction |
| $10,000 or more | No deduction | |
Beginning in 2024, the SECURE 2.0 Act of 2022 allows you to access up to $1,000 annually from retirement savings for emergency expenses. It permits survivors of domestic abuse to withdraw the lesser of $10,000 or 50% of their retirement account, and lets victims of aqualified federally declared natural disaster withdraw up to $22,000 from their retirement account without penalty.
Other Retirement Accounts
Other tax-advantaged retirement accounts can apply to different situations such as SIMPLE 401 (k) plans, 403(b) plans, SIMPLE IRA plan, and SEP plans. Once you have maxed out contributions to a tax-advantaged account, you may want to turn to a traditional investing account to help your nest egg grow.
By investing in assets like stocks and bonds, you have the potential to earn significantly more profits than you would if you simply held cash. However, you should plan to pay taxes on gains earned on your investments. You may also incur trading fees that can affect your profits.
Consider consulting with a professional advisor who can help you choose investments that match your financial goals and risk tolerance level.
Order your copy of the print edition ofInvestopedia's Retirement Guidefor more assistance in building the best plan for your retirement.
How a 401(k) With Company Match Works
To illustrate how a 401(k) with company match works, consider an example where you work for Company A, which offers a 401(k) plan. You plan to contribute $2,000 each year toward your retirement and you are deciding whether it makes better financial sense to contribute to the 401(k) or to an IRA.
If Company A provides a matching contribution, 401(k) will be the better choice. Below is a look at the growth of the accounts over 10 years, assuming an employer match of $1 for each $1 you contributes, up to $1,500. In 10 years, your 401(k) would grow significantly faster than an IRA.
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What To Consider When Choosing a Retirement Plan
Matching contribution plans are typically the best retirement plans to build your nest egg. But if your employer isn't making matching contributions to the 401(k) plan it offers, consider several factors before deciding which retirement account to use:
Investment choices: Large corporations typically limit investment choices to mutual funds, bonds, and money market instruments, similar to the investment options available in a self-directed IRA. Smaller companies may do the same, but they are typically more likely to allow self-direction of investments.
Fees: Fees that are charged to 401(k) accounts are not as visible as the fees that are charged to an IRA, leading many participants to believe that 401(k) fees are minimal to nonexistent.
Accessibility: Assets in a 401(k) plan cannot be withdrawn unless the participant experiences a triggering event. However, if a company's plan has a loan feature, you may be able to take a loan from your account and repay it. IRA assets can technically be withdrawn at any time. However, if you're under the age of 59½, your distribution will be considered taxable income, and it may be subject to a 10% penalty.
Management costs: You may need the services of a professional investment advisor to make sure asset allocations align with your retirement goals and objectives. If your employer provides those services as part of its employee benefits package, you won't incur an additional cost, however, this perk may not be available for an IRA unless an employer extends such services to assets outside of its employer-sponsored plan.
Tax deductions: Contributions to a 401(k) reduce taxable income as do contributions to a traditional IRA. Those employed by a company with a retirement plan are subject to income limits on how much of the contribution is deductible. Contributions to a Roth IRA are not tax deductible.
Beginning in 2025, the SECURE 2.0 Act of 2022 requires employers to automatically enroll eligible employees in new 401(k) plans with a participation amount of at least 3% but no more than 10%. The contribution escalates at the rate of 1% per year up to a minimum of 10% and a maximum of 15%.
Contributing to Both 401(k) and IRA
You can contribute to both a 401(k) and an IRA. For example, you could contribute up to the maximum employer matching amount for a 401(k) then contribute to an IRA.
You could also contribute to both a Roth IRA and a traditional IRA, but your total contributions to the two accounts combined cannot exceed the IRS maximum amount.
Setting Up a Backdoor Roth IRA
High-income earners can’t contribute directly to a Roth IRA, but they can indirectly contribute to a backdoor Roth IRA. A traditional IRA doesn’t limit or prevent individuals with higher incomes from contributing. Here's how to set up a backdoor Roth IRA:
- Contribute to a traditional IRA: There are no income limits for making this contribution and it may already be after-tax money if your income exceeds the limits.
- Immediately convert your traditional IRA to a Roth IRA: Ideally, do this before your traditional IRA contribution has generated any earnings that will have to be taxed when you do your conversion.
- Follow the tax rules: If you took a deduction on your pre-tax contributions from your traditional IRA, you owe taxes when you convert them to a Roth IRA, which is funded with after-tax income.
If you cannot deduct your traditional IRA contribution in step 1, you won’t owe further taxes except on any earnings if your conversion happened after your contribution generated income. If you have other money in traditional IRAs, there is a pro-rata rule for taxes on a Roth IRA conversion.
If your employer permits traditional 401(k)s to be rolled over to either your company’s Roth 401(k) plan or to an outside IRA, you may be in a position to move a considerable amount of money into a Roth account where it can grow tax-free and provide tax-free distributions at retirement. This strategy requires sophisticated advice about what you might owe in taxes when you convert.
Time Horizon and Beneficiaries
Your time horizon and age are factors when determining proper asset allocation. If you are at least 50, participating in a plan that includes a catch-up contribution feature can be an attractive choice, especially if you are behind in accumulating a retirement nest egg.
Though retirement accounts are usually intended to finance your retirement years, some people plan to leave these accounts to their beneficiaries. You will need to evaluate your tax-free or taxable assets and whether you want to avoid RMDs that will lower the balance in your accounts. For Roth IRAs, the RMD rules do not apply to the IRA owner, which allows for a larger balance to be left to beneficiaries.
Other Retirement Accounts
Other tax-advantaged retirement accounts can apply to different situations such as SIMPLE 401 (k) plans, 403(b) plans, SIMPLE IRA plan, and SEP plans. Once you have maxed-out contributions to a tax-advantaged account, you may want to turn to a traditional investing account to help your nest egg grow.
By investing in assets like stocks and bonds, you have the potential to earn significantly more profits than you would if you simply held cash. However, you should plan to pay taxes on gains earned on your investments. You may also incur trading fees that can affect your profits.
Consider consulting with a professional financial advisor who can help you choose investments that match your financial goals and risk tolerance level.
How Inflation Can Impact Your Nest Egg
As you develop your retirement plan to build your nest egg, keep in mind the impact of inflation, or the increase of the cost of goods and services. Inflation can erode the value of your nest egg, but there are ways to prepare for it. For example, you can take inflation into account as you plan a budget and establish your income goals for retirement.
Treasury Inflation-Protected Securities (TIPS), high-yield bonds, and shorter duration bonds are among the types of assets that can be resistant to inflation. Consult with a professional financial advisor to find the right asset allocation for your personal situation and goals.
You can also ensure your portfolio is well diversified. If the growth of your investments does not match the rate of inflation, you will essentially lose money. So, if your portfolio grows by an average of 4% per year, but inflation averaged 5% per year, the value of your investments would actually decline in terms of how it can support you in retirement.
The federal government uses inflation as a benchmark when deciding to whether to raise Social Security benefits or whether to increase contribution limits to tax-advantaged retirement plans.
What Are Best Options for Retirement Planning?
Individual retirement plans include traditional IRAs, Roth IRAs, and spousal IRAs. Anyone that earns income can open these on their own. The best employer-sponsored retirement plans include 401(k)s and 403(b)s, and 457(b)s.
How Much Can I Contribute to My 401(k)?
The annual contribution limit to a 401(k) for 2023 is $22,500 in 2023. If you are 50 and over, you can contribute an additional $7,500.
What Is a Good Amount of Money for Retirement?
The appropriate amount of money considered "good" for retirement is based on your current lifestyle, desired lifestyle in retirement, obligations, and health. Some financial advisors recommend that your annual retirement income equal 80% of your last job's annual income.
The Bottom Line
The best retirement plan to build your nest egg will depend on a number of factors, but generally plans that offer an employer match will provide the most growth. After you've contributed up to an employer match, choosing the best options for your retirement funds can be challenging. Weigh the factors like fees and taxation and consider consulting a professional retirement planning advisor for more guidance on your specific financial situation.
