For once Congress has given us good news heading into a new year: contribution limits on retirement accounts are going up. The increases may not seem like much on the surface, but do you know how big of an impact they can have on your retirement?
(The amount is absolutely huge!)
Let’s do some math to show just how huge of an impact we are talking about, but first let’s make sure we are all on the same page for the new retirement account contribution limits.
Retirement Account Contribution Limits for 2013
Here are the new contribution limits for Roth IRA, Traditional IRA, Roth 401k and Traditional 401k retirement accounts for the 2013 tax year.
Roth IRA and Traditional IRA Contribution Limit 2013
Assuming you meet other qualifications to use these accounts (primarily being under specific income limits based on your marital status), you may contribute a maximum of $5,500 per person per year. After you hit age 50 you can tack on an extra $1,000 per person as a contribution as well.
The new $5,500 contribution limit is an increase of $500 over the $5,000 contribution limit that has been in place for several years.
Single individuals up to age 50 may contribute $5,500 per year. After age 50, they may contribute $6,500 per year. For married couples they may contribute a total of $11,000 per year until age 50 and $13,000 per year after age 50.
Traditional 401k and Roth 401k Contribution Limit 2013
Thankfully 401k contribution limits have been raised as well from $17,000 per year to $17,500 per year. The catch up contribution for retirement also applies but at a higher rate of an extra $5,500 per year.
That means single individuals may contribute $17,500 per year up to age 50 and $23,000 per year after age 50. Married couples get a huge boost from $35,000 per year combined up to age 50 and $46,000 per year combined after.
What Do Higher Retirement Account Contribution Limits Mean For Your Retirement?
You know being able to save extra money each year for retirement will pay off, but how significantly?
To show the difference let’s come up with two different scenarios:
- A single individual who remains single, begins saving for retirement age 30 and stops at age 65, uses the Roth versions of both IRA and 401k accounts (so we don’t have to worry about tax rates in retirement), and maxes out the account whenever possible including during catch up contribution years.
- A married couple who remain married, begin saving for retirement at age 30 and stop at age 65 (at the exact same start and stop time for simplification purposes), use the Roth versions of both IRA and 401k accounts (again to avoid tax calculations in retirement), and max out all of their accounts whenever possible including catch up contribution years.
We’ll also assume a consistent 7% rate of return on all investments for all years to keep things conservative and simple. And we’ll assume they turned 30 in the year we are beginning our comparison.
By looking at the two above scenarios we can then compare 2012 contribution limits to 2013 contribution limits to see the maximum difference you might enjoy from the higher limit. Obviously your own personal difference will depend on how much you contribute and what growth percentage you earn.
Using 2012 Contribution Limits
Under the 2012 contribution limits our savers could put aside:
- $5,000 each in IRAs
- $17,000 each in 401ks
- $1,000 each in IRA catch up contributions after age 50
- $5,500 each in 401k catch up contributions after age 50
If the single individual and married individuals maintained maxing out these contributions, then added on catch up contributions after age 50, they would end up with the following nest egg at age 65 in retirement:
- Single: $3,428,868.46
- Married: $6,857,736.93
Using 2013 Contribution Limits
Under the new 2013 contribution limits our savers could put aside:
- $5,500 each in IRAs
- $17,500 each in 401ks
- $1,000 each in IRA catch up contributions after age 50
- $5,500 each in 401k catch up contributions after age 50
If the single individual and married individuals maintained maxing out these contributions, then added on catch up contributions after age 50, they would end up with the following nest egg at age 65 in retirement:
- Single: $3,576,781.92
- Married: $7,153,563.85
Maximum Difference in Retirement Nest Egg Using 2013 Contribution Limits
This is all assuming that Congress doesn’t further increase the contribution limit in the future to account for inflation. That having been said, here is the current maximum difference our savers would enjoy thanks to the relatively small increases to the IRA and 401k contribution limits:
- Single: $147,913.46 (4.31% more)
- Married: $295,826.92 (8.27% more)
This stuff is fascinating to me. With a very slight increase in contribution limits you just added at least an extra $147,000 to your nest egg.
But here’s the real kicker…
Difference Between How Much Extra You Contribute vs. How Much Larger Your Nest Egg Is
Okay, great, I’ll have more money in my nest egg under the contribution limits. But I also put in a lot more money, too. Was it really that much more?
You might be thinking something just like this. Let me show you even more significance to this retirement contribution limit increase.
Under the 2012 contribution limits and using the above 2012 example, our savers would contribute (money they invested out of pocket; not growth on the investment) this much money to their retirement nest egg over the entire 35 year saving period:
- Single: $867,500
- Married: $1,735,000
Under the 2013 contribution limits and using the above 2013 example, our savers would contribute (money they invested out of pocket; not growth on the investment) this much money to their retirement nest egg over the entire 35 year saving period:
- Single: $902,500
- Married: $1,805,000
The difference between the two amounts? $35,000 for singles and $70,000 for married couples.
But that extra contribution, starting at the beginning and lasting until your last contribution, added $147,913.46 for singles and $295,826.92 for married couples. Not bad for the price of admission of just $35,000 for singles and $70,000 for married couples, right?
Here’s the extra growth you get out of those larger contribution amounts:
- Single: $112,913.46
- Married: $225,826.92
Not bad for chipping in an extra $1,000 per year per person.
Maximize Your Retirement Contributions
Will we all be able to completely max out contributions into both IRAs and 401ks each and every single year of our lives? Probably not.
Will we all enjoy 7% flat returns every year on our investments? Absolutely not.
But the point remains: you have the opportunity to put even more money aside than you could before. You should be taking advantage of as much of the contribution limit as you can each year. Once the time passes where you can no longer contribute for that tax year, the potential benefit is forever lost.