Recently released contribution limits and Roth considerations

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The federal government has recently released the new contribution limits for all retirement plans for 2018.  

As you will note, the limits haven’t increased much; for example, the maximum employee contribution to a 401(k) plan increased from $18,000 (where it has been for several years) to $18,500, while the additional contribution amount for those 50 and older remains at $6,000.

Similar small changes in limits were made to a number of other plans, but several did not change, such as IRA contributions. Remember that the penalty for excess contributions to a retirement plan is 50 percent of the excess contribution, so be sure you know the applicable limit for your situation before you go charging ahead.

Another item in the news involving retirement plans is a proposal being tossed about in Congress that would do one of two things. First, the proposal would require all contributions to plans going forward to be Roth contributions, i.e., no longer permit pre-tax contributions to be made but force everyone to use Roth plans (pay tax now, withdraw tax free later) only. The second idea is a variation of this, allowing some level of pre-tax contributions with all contributions above that level to be Roth (after tax) contributions. 

Obviously, these proposals are being considered as a way of increasing government tax revenues in the near-term, albeit at the expense of greater tax revenues that could be realized in the future. By basing the system substantially or completely on the Roth approach of paying taxes on the money going in but not the money coming out (subject to certain rules), the government is essentially giving up the right to tax the growth of the retirement plan balances over time. This may help finance a tax reform plan now but at a cost to the government in the future that cannot be estimated.

That said, who would be most affected by these changes if they come to pass?  I regularly recommend to younger folks (those in their 40s or younger) that they contribute to Roth plans versus traditional plans because the earnings on and appreciation of their funds over time will not be federally taxed in the future, and the tax bracket they are in now is low enough that paying the tax now is not a big impediment to contributing.  Those 50 and above may be more adversely affected since they are typically in a higher tax bracket (thus losing a deduction that is worth more to them) and have a shorter period of appreciation and growth before beginning to withdraw funds. 

If you are currently contributing to a pre-tax retirement plan, you may want to consider maxing out your contributions this tax year both to take advantage of the current rules and limits and to gain a greater tax advantage if, by some chance, rates are lower next year. If all your contributions are after-tax, then contributing more next year when rates may be lower might make more sense than accelerating contributions you had planned to make next year into this year. As always, seek the opinion of your tax professional who can best advise you in the context of your specific situation.

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