If you use tax-advantaged accounts like retirement accounts or an HSA, you should understand contribution limits. Below is a quick and simple guide to understanding what contribution limits are and how they affect you.
What are contribution limits?
Contribution limits are a limit on how much money you can contribute to your tax-advantaged accounts each individual calendar year. For example, the 2021 contribution limit to your 401(k) is $19,500. That means from January 1, 2021 to December 31, 2021, you can contribute a maximum of $19,500 to your 401(k). Your chance to make contributions completely starts over the next year, so you cannot contribute $15,000 this year and then $24,000 next year for an average of $19,500 per year. It's a strict $19,500 for each calendar year.
Why do they exist?
These limits exist for a very simple reason: taxes. These accounts have tax advantages; the government wants its tax money, and therefore the government limits how much you can use your accounts to avoid those taxes.
What are the contribution limits for each account?
Currently in 2021, there are four contribution buckets, and each can be filled separately. A contribution to any account within the bucket will count towards the limit for that bucket.
For example, if you have a 401(k) and a 403(b), you may not contribute $19,500 to each, but you could contribute $10,000 to the 401(k) and $9,500 to the 403(b) for a total of $19,500 for the year in that bucket.
2021 Contribution limits:
Catch up Contributions:
If you're nearing retirement age, the IRS increases the contribution limit. This is in case you haven't been saving and need to "catch-up" as retirement approaches. Catch up contributions start at age 50, so if you are 50 years old or above, your new limits look like this:
IRA: $7,000
401(k) Equivalent: $26,000
457(b): $26,000
HSA: $4,550 (must be 55 years or older)
Does the employer match count towards my contribution limit?
No, employer contributions do not count towards your personal limits. However, there is a limit for combined contributions.
Combined contribution limits are the lesser of the following:
100% of the employee's salary
$57,000 (or $63,500 if you're 50 of older)
So if you make $45,000, then the combined limit is $45,000 (100% of your salary). If you make $70,000, the combined limit is $57,000.
Advanced: After-Tax Contributions to a 401(k) after the $19,500 limit
Many employers do not allow after-tax contributions, but if yours does, then you may contribute up to the combined contribution limit of $57,000 by switching to after-tax dollars after you've hit your $19,500 limit.
For example, if you made $19,500 in tax-deferred contributions, and your employer contributed $7,500 on your behalf, that would be a total of $27,000. This would mean that you have another $30,000 in after-tax room before you hit the combined $57,000 limit.
All growth on after-tax contributions avoids capital gains taxes (like usual), but that growth will also be subject to regular income tax when withdrawn (just like the other money in your tax-deferred account). This makes after-tax contributions notably different from Roth contributions because the growth on Roth contributions are not subject to income tax.
Summary
Below is a table that summarizes the contributions limits and some rules for retirement and tax-advantaged accounts.
