Tax benefits for contributions made to qualified retirement plans in United States are limited by the upper limits set by the Internal Revenue Code, and are announced every year. For the year 2018, some limits like the contribution in a 401(k) plan have been increased, whereas some others, like the maximum ‘catch-up’ contribution by those over 50 years have remained unchanged. Overall, the changes are on expected lines.

An Overview to the Upper Limits and Contributions for Retirement Plans

Upper limits of contributions for extending tax benefits are announced by the IRS every year, which limits the tax benefits accorded to retirement contributions and ensures that the tax benefits are available to those in the relatively lower income groups, who need it most. These tax benefits can be conceptualized as a kind of subsidy that is made available with the resources available with the Government, and by targeting them to those who need it more, the Government is able to optimize the social welfare benefits. It also helps those with lower savings, by increasing their retirement benefits.

The limits for the year 2018 have been made available on October 19, 2017. It is somewhat of a mixed bag, and the limits for contributions and income levels that are eligible for deducting contributions have been somewhat relaxed.

The major changes in the limits for 2018 are listed below.

Changes in Tax Deductible Contributions to Qualified ‘Defined Contribution’ Plans

The highlight of 2018 change is the increase in the upper limit of tax eligible contribution to all ‘qualified’ defined contribution plans from $ 54,000 to $ 55,000. This means that in 2018, the total contribution to traditional 401(k) Plan, solo 401(k) Plan, safe harbor 401(k) Plan or automatic enrolment 401(k) Plan that will be eligible for the benefit of tax exclusion has risen by $ 1000 from $54,000 to $ 55,000. This would, of course, be subject to the level of compensation being at least this amount.

The ‘elective deferrals’ that an employee can opt for these defined contribution plans has also been increased now by $ 500 from $ 18,000 to $ 18,500.

Changes in Employee Contribution in Other Plans

The Employee contribution limit that is eligible for tax exclusion in 403(b) Plans, most 457 Plans and the ‘Thrift Saving Plan’ of Federal Government has also been increased by $ 500 from $ 18,000 to $ 18,500.

Catch-up Limits for over 50 in Defined Contribution Plans remain unchanged

The upper limit for additional ‘catch-up’ contributions that can be made by those over 50 years of age to a 401(k) Plan, 403(b) Plan, 457 Plan and the ‘Thrift Saving Plan’ of Federal Government remains unchanged at $ 6000 for the year 2018.

Traditional IRA Contributions Limits Unchanged, but Phase-out Income Limits Increased

The upper limit of contribution to a traditional IRA (Individual Retirement Account) for the year 2018 remains unchanged at $ 5,500.

The additional ‘catch-up’ contribution by those over 50 years also remains unchanged at $ 1000.

Phase-Out Levels of Income Changed for Traditional IRA

Some relief in provided this year for those having borderline income levels, by increasing the ‘phase-out’ income levels for traditional IRAs as well as the Roth IRA.

These phase-out income levels are a band of income, below which contributions to IRA are fully eligible for tax benefits, and above which no tax benefits are eligible. Within the ‘phase-out’ band of income, the benefit is generally reduced in proportion to the rise of income within the band.

For instance, if the tax eligible contribution is $ 5500 and the ‘phase-out’ income levels are $ 63,000 to $73,000, then at $63,000 the whole of $5,500 will be eligible for tax benefits, at $73,000 no part of it will qualify for the tax benefit, and between these two limits, the benefit will change proportionally. For example, at income of $68,000, which is midway the limits, half of the contribution of $5,500 or $2,750 will be eligible for tax benefits.

For the year 2018, the phase-out limits of income for contributing to traditional IRA have been increased. These limits become applicable only when the contributor to the IRA (or spouse) is also covered by a workplace retirement plan. For single taxpayers, the ‘phase-out’ income range for the year 2018 has been increased by $ 1000 to $63,000-$73,000. For married couples filing jointly, it has been increased by $ 2000 to $101,000-$121,000. For an IRA contributor, who is married and filing jointly, is not covered by workplace retirement plan but is married to a spouse who is so covered, the ‘phase-out’ income range has been increased by $ 3000 to $189,000-$199,000.

Changes in ‘Phase-out’ Income Levels for Roth IRA Plans

The income ‘phase-out’ ranges for taxpayers making contribution to Roth IRA Plans have also been similarly increased. For singles, the range is increased by $ 2000 to $120,000-$135,000. For married couples, filing jointly, the ‘phase-out’ range has been increased by $ 3000 to $ 189,000-$ 199,000.

Contribution Limit under SIMPLE Retirement Plan remains unchanged

The maximum contribution that can be made by an employee under the SIMPLE IRA for 2018 remains unchanged at $ 12,500.

Compensation Limit for Employer’s Contribution in SEP & SIMPLE plan Increased

The upper limit of annual compensation that can be taken into account for determining the 3% or 2% contribution by the employer in a SEP Plan or the SIMPLE IRA Plan has been increased from $270,000 to $ 275,000. This will enable higher employer’s contributions to be made in these plans.

Income Limit for Saver’s Credit Increased

The income limit for ‘Retirement Saving Contribution Credit’, commonly known as ‘Saver’s Credit’ that provide additional tax relief to low and moderate income workers for 2018 has also been enhanced. For singles, it has been increased by $500 to $31,500.  For married couples filing jointly, it has been increased by $ 1000 to $ 63,000, whereas for head of Households, it has been increased by $ 750 to $47,250.

Maximum Benefit Limits in Defined Benefit Plans Raised

The maximum benefit limit that is eligible for tax benefits in the ‘defined benefit’ plans has also been raised by $ 5000 to $ 220,000. These are retirement plans that are not that common these days.

Are the Changes Adequate?

The tax incentives for retirement planning exist primarily for inducing people to go for retirement planning. The tax benefits that are provided in this process play a role in adding to the retirement benefits in the long run, but that cannot be considered their primary objective. With low inflation rates, slowing economic growth and rising number of people eligible for social security benefits, no major changes in these limits were expected. Thus, the changes in the contribution and income limits are more or less on expected lines.