IRS Increases the Amount Employees Can Save for Retirement in 2023
On October 21, the IRS announced new contribution limits for 2023 and other changes in plan attributes for 401(k)s and other employer-sponsored plans.
Here are the highlights (also see IRS Notice 2022-55):
- Annual contribution limit: $22,500 (up 9.1% from the 2022 limit of $20,500)
- Catch-up provision for employees age 50+: $7,500 (up 14% from the 2022 limit of $6,500)
- Annual compensation limit: $330,000 (up 8% from $305,000 in 2022)
- Annual additions limit for defined contribution plans: $66,000 (up 8% from $61,000 in 2022)
- Highly compensated employee testing limit: $150,000 (up 10% from $135,000 in 2022)
- Key employee testing limit: $215,000 (up 7% from $200,000 in 2022)
This may be one of the few occasions when historically high inflation is good news for employees who want to get a jump on saving for the rapidly increasing costs anticipated for future retirees. With the beefed-up catch-up provisions, a worker who is age 50 or older can contribute as much as $30,000 to an employer-sponsored plan like a 401(k) in 2023. It also presents a good opportunity for plan sponsors to encourage greater participation by re-evaluating salaries, increasing or initiating employee matching programs (which are proven to boost participation), and offering automatic enrollment.
In fact, working toward greater participation is timely, because significant numbers of those eligible to participate in a 401(k) plan are still failing to take advantage of the opportunity. The challenge is that the higher inflation that is driving the IRS to raise contribution limits is also eating away a growing amount from employees’ paychecks, making it more difficult to set aside adequate funds for their retirement. Not surprisingly, a recent Schwab survey of employees found that workers listed inflation as a principal obstacle to greater retirement savings (45%), ahead of keeping up with monthly expenses (35%), market volatility (33%), and unexpected expenses (33%).
According to a recent Vanguard report, only 14% of account holders were contributing the maximum amount annually to their employer-sponsored plans, even though the majority surveyed had annual income in excess of $150,000 (meeting the new testing limit for “highly compensated employees”). At Fidelity, the figure was even lower, at around 10%. These are additional reasons why plan sponsors need to actively communicate and promote the benefits of 401(k) participation.
A well-conceived, properly communicated 401(k) plan, along with other benefits, is one of the best strategies for attracting and retaining top talent. This fact received increased attention through the so-called “Great Resignation” when up to 65% of employees considered leaving their employers, according to a 2021 survey by PricewaterhouseCoopers. At the same time, 88% of executives reported higher-than-normal turnover. Keeping employees—especially current and future “rock stars”—is much less expensive than finding, recruiting, and retraining replacements. Financial stress contributes to loss of focus at work, employee dissatisfaction, lack of engagement, and turnover. One of the best ways employers can demonstrate proactive care for employees’ financial well-being is by offering and actively promoting a well-managed benefits package, including a competitive 401(k) plan. And if you’re concerned about employees taking your matched contributions and walking out the door, you can structure your vesting schedule to ensure that only those committed for the long term can retain contributions when leaving the company.
And it’s not just about employee retention. Companies can obtain tax breaks to help offset retirement plan startup costs. In fact, the 2019 Setting Every Community Up for Retirement Enhancement (SECURE) Act increased this potential benefit tenfold for companies with 1–100 employees, from $500 to $5,000. Employers can also receive a tax credit for adding an automatic contribution feature to a new or existing plan. Businesses that offer a matching contribution feature may also deduct such contributions as ordinary business expenses. Finally, business owners who participate in their own 401(k) can reduce personal taxable income for contributions to the plan.
Bottom line: for plan sponsors, we believe there has never been a better time to promote their plan benefits or to launch a new retirement plan for their employees. Take advantage of the IRS announcement to tout the value of saving for the future with the additional leverage of tax-free growth. Encourage employees to sign up by offering a matching contribution and make it even easier by providing automatic enrollment. With thoughtful plan design and effective internal marketing, your 401(k) plan can become one of your best tools for increasing employee commitment, reducing turnover, and setting your enterprise up for long-term financial success.
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Patricia L. Hutchinson
Director of Retirement Plan Services
MBA