Retirement savings plans like 401k are said to be ideal, primarily because the contributions you make are deducted from your salary before withholding federal income tax. It does not only help you save up for retirement, it also gives you a tax cut.
For this year, 2012, you can have a maximum 401k elective deferral of $17,000. An elective deferral is the amount of your gross salary that you opt to defer for your employer to place in a retirement plan. But aside from your pre-tax elective deferral, you can have additional contributions to your 401k plan.
The US government made provisions for those who are already nearing retirement age and added the benefit of catch-up contributions to retirement plans, including 401k. If you are already 50 years old or older, you are allowed to make an additional deferral from your gross salary to your 401k plan. The maximum 401k catch-up contribution limit for 2011 is $5,500. Just like all other elective deferrals, catch-up contributions are indexed for inflation every year. As a result, if you’ve already reached the age of 50, you can make a total contribution of $22,500 from your income before withholding tax. A catch-up contribution is provided for people to “catch up” on their pre-tax contributions and add more to their savings before they retire.
Aside from your personal pre-tax contribution, your company can give a maximum 401k employer contribution of 6% of your gross salary to your plan. This is also known as a matching contribution, because your employer will match the pre-tax contribution that you’ll make. Depending on the terms stated in your plan, your employer can offer 50% of the 6% of your gross salary. This means for every dollar you contribute to your plan, your employer will give 50 cents. There are also companies that generously match employees’ contributions dollar for dollar.
In addition to your personal and employer pre-tax contributions, you can contribute some more from your income after tax is deducted. You can be allowed to make post-tax contributions as long as, when added to all your pre-tax contributions – standard and catch-up, if applicable – the total will not exceed the 401k total contribution limit for the year or 100% of your total compensation, whichever is less. The ceiling for total 401k contribution for 2012 is $50,000. The total 401k contribution limit is also indexed for inflation per year and can increase by $1,000.