At Puzzle, we often get asked, “I’ve already maximized my company’s 401(k) plan for the year. Are there other ways I can contribute to my retirement savings above the current IRS limit?” Below are a few strategies you might want to consider for yourself to increase your annual savings.
- Saving on your own:
- Non-Deductible IRA Contributions: You may be eligible to make contributions to a traditional IRA with after-tax dollars up to the IRS limit of $6,500 (as of 2023), with an additional catch-up contribution of $1,000 if you are age 50 or older. You may be able to then convert these contributions to a Roth IRA, regardless of your income, allowing for potential tax-free growth and withdrawals.
- Health Savings Account (HSA) Contributions: If you have a high-deductible health plan (HDHP), you can contribute to an HSA. The contributions are tax-deductible, and the money can be invested and grow tax-free. Once you turn 65, you can withdraw the money for any purpose penalty-free, but you will owe taxes on the withdrawal if it is not used for qualified medical expenses.
But by far the most under-utilized strategy we’ve come across may be available inside your employer’s retirement plan:
- Roth 401(k) Contributions: Some employer-sponsored retirement plans allow for additional after-tax contributions beyond the IRS limit. These contributions are not tax deductible, but they can grow tax-deferred and be withdrawn in retirement.
Why this is different than Roth Contributions?
- After-tax contributions are made with money that has already been taxed. These contributions do not reduce the participant’s taxable income in the year they are made, but they are considered part of the participant’s basis in the plan. This means that when the participant withdraws these funds from the plan, they will not be taxed again on the portion of the funds that were originally contributed after-tax.
- On the other hand, Roth contributions are made with money that has already been taxed, similar to after-tax contributions. However, the difference is that Roth contributions are made with after-tax money and can grow tax-free, meaning that they may be withdrawn tax-free in retirement. This can be advantageous for individuals who expect to be in a higher tax bracket in retirement than they are currently in.
In summary, after-tax contributions are made with already-taxed money but the gains may be taxed again upon withdrawal, while Roth contributions are made with already-taxed money and grow tax-free, meaning they can be withdrawn tax-free in retirement.
It’s important to note that contributing beyond the IRS limit may not be feasible or advisable for everyone, depending on their individual financial situation and goals. Before making any decisions, it’s important to consult with a financial advisor who can help you determine the best strategy for your retirement savings.
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