Retirement Savings : Maxed Out? Here Are 3 More Ways To Save
If you aggressively save for retirement, you may run into limits. The annual limits for how much you can put toward a tax-advantaged retirement plan depend on the type of plan. Below is a summary of four valuable retirement plans.
A health savings account, or HSA, is a triple-tax benefit. Money goes in pre-tax, grows tax-deferred, and is used tax-free if it’s used for qualifying medical expenses. You can save for medical expenses now and for retirement later. After the age of 65, HSA money can be spent on non-medical items without penalty, though still subject to regular income taxes.
A 401k plan allows you to contribute up to $19,500 per year as an employee. These contributions are typically tax-deductible and taxable upon distribution (retirement). Most 401k plans allow for a Roth option, which would provide no current tax deduction for the contributions but would allow earnings to grow 100% tax-free if funds are held in the account until age 59 ½. If you are over 50 years old, you can contribute an additional $6,500, $26,000 total.
In addition to employee contributions, your employer (If you are the business owner, you are the employee and the employer), can contribute an additional matching amount for whatever the plan allows, up to 25% of your wages. The total combined annual employee and employer contributions cannot exceed $58,000. If you are over 50, the combined total limit would be $64,500. Check with your 401(k) administrator to see what your plan allows.
Individual Retirement Account
An Individual Retirement Account (“IRA”) is not an employer-sponsored plan, but as the name implies, an individual retirement account. IRAs have smaller annual contribution limits, but they do not require any benefit to your employees if you are a business owner. An IRA may be Roth or traditional and allow contributions up to $6,000 per person, $7,000 if you are 50 or older.
Roth IRAs are subject to income limitations, but these can easily be avoided through the use of the “back-door” Roth rollover option.
Cash Balance Defined Benefit
The difference between a defined contribution plan and a defined benefit plan is that a defined contribution defines the amount contributed while a defined benefit defines the benefit to be received upon retirement. For example, a 401k plan that matches up to 6% would be a defined contribution. The actual benefit is not defined, and if market conditions deplete your 401k balance, you are out of luck.
A defined benefit is the old traditional model but is increasingly less common in recent decades. With a defined benefit, the employer is responsible for and assumes the investment risk but guarantees a certain fixed income annuity for life upon retirement. Most small businesses have traditionally steered clear of defined benefit plans for fear of risk and the obligation of providing a high-cost benefit to employees; however, we have seen increased interest in the cash balance defined benefit plan because of very attractive tax benefits.
With a cash balance defined benefit plan, any U.S. citizen is allowed a lifetime benefit of up to a certain amount, depending on the age you retire. Based on the lifetime benefit accrual, actuaries determine the amount you can contribute each year. Depending on your age and your accrued balance, you may be able to contribute a significantly higher amount than allowed by an IRA or a 401k, and that contribution is 100% tax-deductible and tax-deferred until retirement.
It is true that a benefit is required for employees, but if you already have an employer 401k in place for your employees, your required benefit to your employees may be relatively insignificant.