Your 401K is a retirement account that allows you to invest money with pre-tax dollars. In some cases, your employer may even match your contributions, essentially giving you free extra money to contribute towards your retirement. There are huge benefits to fully funding your 401K as you can enjoy the matching and tax break and you can also invest and take advantage of compound interest to grow your nest egg for retirement.
There are, however, annual limits to how much you can contribute to your 401K. If you contribute less than the annual limit over the course of the year, this doesn’t carry over to the next year either— which means that if you miss the opportunity to max out your contribution each year, you’ll never get that chance back. Because of the opportunity cost associated with not contributing to a 401K, it is a good idea to max out your contributions each year.
Are You on Track to Max Out Your Contributions This Year?
The maximum amount that you can contribute to a 401K is set by the Internal Revenue Service (IRS) and is subject to periodic changes to adjust for inflation and cost-of-living increases. The maximum contribution limits rose in 2013, which means that you will want to up your contributions this year even if you were maxing out in the past.
The annual maximum contribution for your 401K this year is $17,500. However, if you are over the age of 50, you are permitted to make additional contributions to this tax-deferred retirement account. These contributions are called “catch up” contributions. As of 2013, you are allowed to contribute an additional $5,500 in contributions if you are over the age of 50. That means you are permitted to contribute a maximum of $23,000 into your 401K retirement account.
While you can contribute this amount at any time over the course of the year, it is typically easier for most people to contribute each month rather than trying to come up with $17,5000 or $23,000 all at once at the end of the year. This means that you should have contributed around $1458.00 each month to this point in order to be on track to max out your 401K (unless you are over 50, in which case you should have contributed around $1916.00 per month).
Higher Contribution Limits for a Self Employed 401K
While $17,000 or $23,000 is generally the maximum that can be contributed to a 401K, there are different rules for workers who are self-employed. Self-employed individuals can create a self employed 401(k) or a profit sharing plan that allows you to contribute up to a percentage of your annual profit. Called a “solo” 401K, you can contribute as both an employee and as an owner of the business. However, the total contributions not counting catch-up contributions cannot exceed $51,000 for 2013 according to the IRS.
While everyone should try to contribute the maximum to their 401K plan, this is especially important for individuals who are self employed and who will not be able to rely on a traditional pension or employer match to provide for them during their retirement years.