Secure 2.0: Changes to Catch-Up Contributions

Catch-up contributions are additional amounts that may be contributed by employees who are at least 50 years old during a calendar year. The regular deferral limit to 401(k) and 403(b) plans for 2023 is $22,500, and the catch-up limit is $7,500. So, employees under age 50 can contribute a maximum of $22,500, whereas those age 50 or older may contribute up to $30,000. Both the deferral and catch-up contribution limits are indexed annually for cost-of-living increases.

A benefit of catch-up contributions is that they are not included in 401(k) compliance testing. Therefore, a highly compensated employee will always be able to make a catch-up contribution regardless of the plan’s ability to pass an ADP nondiscrimination test.

The SECURE 2.0 legislation passed in 2022 has multiple provisions that modify the catch-up rules, and this article spotlights the two changes that are most relevant for employer-sponsored plans.

Section 109: Increased Catch-up Contribution Limits for Employees at Certain Ages

Starting in 2025, employees who turn ages 60, 61, 62 or 63 during the calendar year have a “special” catch-up limit in 401(k) and 403(b) plans that is the greater of $10,000 or 150% of the regular 2024 catch-up limit. Since the 2023 catch-up limit is $7,500, you can expect the 2025 “special” catch-up limit to be at least $11,250. In 2026 and future years, this amount will be increased annually with cost-of-living adjustments.

The resulting scenario is unique in that employees will “age out” of the higher contributions. For example, here is what the 401(k) deferral contribution limits would look like if this provision was effective in 2023:

*Note that these are NOT the actual limits for 2023.

The age determination is made based on the birthday that occurs during the calendar year. For example, a person who turns 62 in the year 2025 is considered to be age 62 during that calendar year for applying these limits.

Section 603: Mandatory Roth Treatment of Catch-up Contributions for High Wage Earners

Note: This provision was originally effective in 2024, but the IRS provided an “administrative transition period” in Notice 2023-62 that allows plan sponsors to wait until 2026 to implement the new Roth catch-up rules.

Starting in 2026, catch-up contributions to 401(k), 403(b) and governmental 457(b) plans must be made as Roth for employees who earned over $145,000 in the prior calendar year.  Only compensation from the employer sponsoring the plan is counted for this purpose. Employees with $145,000 or less in compensation for the prior year will have the option to make their catch-up contributions as pre-tax or Roth.

As a reminder, Roth contributions differ from pre-tax contributions in that they are taxed at the time of contribution. Amounts are then distributed tax-free, assuming the account has been in place at least 5 years and the owner is at least age 59 ½.

The point of this provision is to reduce the extent to which high wage earners can defer taxation on their income, thereby raising current tax revenue for the government. However, since most high wage earners are unable to contribute to Roth IRAs because of the income restrictions, many already choose to take advantage of Roth contributions to their employer’s 401(k) and 403(b) plans. Therefore, this provision will not necessarily diminish the attractiveness of the workplace retirement plan for high wage earners.

What Do the Catch-Up Contribution Changes Mean for You?

Employers and HR representatives

If your company’s retirement plan allows catch-up contributions (and most do), your investment recordkeeper and Third-Party Administrator should be reaching out to you with guidance for meeting these requirements. Be sure that you understand who is responsible for implementing the new rules.

For example:

• Who is responsible for monitoring the $145,000 limit and changing catch-up contributions from pre-tax to Roth?
•  Who will communicate the new catch-up rules to employees?
• Is there a plan document amendment required, and when?

You should expect communications from your service providers during 2024 to address these issues.

Individuals

If you participate in your employer’s retirement plan, be aware of the higher catch-up limits that will be available at ages 60 – 63 (starting in 2025). Also, if you are currently maxing out your catch-up contributions and make over $145,000 per year, be aware that your catch-up will need to go in as Roth starting in 2026. Talk to your financial advisor if you are uncertain about the implications. If you are a business owner or otherwise have control over your compensation, you may choose to keep it under the $145,000 limit in 2025 to avoid the mandatory Roth treatment in 2026.

Please contact Jason Hamilton, Director of Retirement, if you have questions or would like to learn more at jason.Hamilton@mai.capital.

MAI Retirement is a division of MAI Capital Management, LLC (“MAI”). 

MAI is an investment adviser registered with the Securities and Exchange Commission.

MAI does not provide legal or tax advice to retirement plans.  Please consult your legal or tax advisor before making any legal or tax decisions. 

The opinions and analyses expressed herein are subject to change at any time. Any suggestions contained herein are general, and do not take into account an individual’s or entity’s specific circumstances or applicable governing law, which may vary from jurisdiction to jurisdiction and be subject to change. Distribution hereof does not constitute legal, tax, accounting, investment, or other professional advice. Recipients should consult their professional advisors prior to acting on the information set forth herein.  MAI Capital Management, LLC (“MAI”) is a SEC registered investment adviser.