Author Topic: Why is there limits on 401k/Roth contributions?  (Read 10928 times)

firelight

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Why is there limits on 401k/Roth contributions?
« on: February 14, 2014, 01:27:15 PM »
I contribute to the maximum on both fronts but I'm curious why there is an upper limit. Why should the government prevent people from saving more if they can afford it? The more people save, less they need to be on welfare later in life and this is less burden for the government right?

Ideally, I would prefer seeing a lower limit (eg everyone has to save atleast 3-5% of their incomes for their retirement) but an upper limit makes no sense. Can someone throw some light on this one?

ZMonet

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Re: Why is there limits on 401k/Roth contributions?
« Reply #1 on: February 14, 2014, 01:35:50 PM »
I think this is the problem with current policy, that they see too much saving as bad for the economy.  They want to incentivive some saving , to try and prevent too many people from straining the safety net later on, while still having a ton of consumerism now.  It just isn't here...Look at China, where the policy experts there are trying to counter the propensity for saving and create more consumerism.  In short, I don't you'll see much expansion of the upper limit.

Eric

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Re: Why is there limits on 401k/Roth contributions?
« Reply #2 on: February 14, 2014, 01:39:41 PM »
It's not really that complicated.  401ks and Roths lower your tax bill, either now or in the future.  They need your taxes. 

Louisville

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Re: Why is there limits on 401k/Roth contributions?
« Reply #3 on: February 14, 2014, 01:40:40 PM »
They're aren't limiting how much you can save. You can save every penny you get. They are limiting how much you can save in tax advantaged accounts, so you can't shelter all of your income from taxation. 401k and IRA are tax advantaged. That is, either your contributions or your earnings in these accounts are tax free.

kkbmustang

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Re: Why is there limits on 401k/Roth contributions?
« Reply #4 on: February 14, 2014, 03:35:29 PM »
The other side of the tax deferred equation is that employers can take the tax deduction for paying that compensation at the time it is paid (or deferred to the 401k) but the employee does not have to take that amount into income until later. This is a tax timing difference. Usually employer deductions and employee income occur at the same time.


greaps

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Re: Why is there limits on 401k/Roth contributions?
« Reply #5 on: February 14, 2014, 03:57:53 PM »
The government wants you to work, not retire. The government wants to tax you. Why are there special tax breaks for 401k's? Why a tax break for investing but not just on the income you earn in the first place. Big government, and big business are bed mates, have always been and always will be. I would imagine its because investment banks have billions of dollars and do have a lot say in government legislation, particularly tax legislation that brings many and many more billions into the investment banks hands. Then make rules like you cannot get your money out until your 59 1/2 so they can make many and many more billions off your own money.

Perhaps im a little paranoid. : )

On_a_slow_boat

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Re: Why is there limits on 401k/Roth contributions?
« Reply #6 on: February 14, 2014, 05:34:06 PM »
I think most of the major points have been hit

1. You are not being limited how much you can save, only limited how much tax advantaged money you can save

2. The government needs revenue (your taxes)

3. encourage consumption now

The last point I would make would be that I don't think the small fraction of the population who are able and choose to max out 401k and IRA's are the ones the government is worried about going on welfare. Though I think it would improve some peoples situation on the margins, the majority of the benefits would likely go to the wealthy. The non savers (aka the ones most likely to go on welfare) are largely not reaching the current limits.

Though I have not studied the new "myIRA" much, I do like the fact that it does provide people without a 401k an ability to save much more money in a tax advantaged account (Roth-rules). These monies can also be rolled into an IRA. I think will help fill a gap for some people as IRA's alone is likely not enough. As a sidenote I'm looking for time to really figure out how the myIRA works.

SoCal

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Re: Why is there limits on 401k/Roth contributions?
« Reply #7 on: February 15, 2014, 12:06:32 AM »
Government benefits (i.e. extra retirement money via tax advantaged accounts) are tailored to those who need the benefit, not those who make the most money. Progressive taxation - the price of admission to live in a society that allows you the freedom to make so much money.

wtjbatman

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Re: Why is there limits on 401k/Roth contributions?
« Reply #8 on: February 15, 2014, 02:04:51 AM »
We got some real conspiracy theorists around here.

It's just like some of the more sane sounding posters in this thread have already stated. You need to have some taxable income so the government can collect enough money to function. Don't need the government, you say? Say goodbye to your social programs, roads, police, fire, and hundreds of other services you rely on every day.

Tax advantaged retirement accounts are designed to help people to save enough for retirement that they can survive it, not use loopholes in 401k/IRA tax laws to create tens of thousands of dollars of tax free income every year (which is encouraged enough around here as-is).

hoppy08520

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Re: Why is there limits on 401k/Roth contributions?
« Reply #9 on: February 15, 2014, 08:38:48 AM »
I think this dead horse has been beaten enough, but let me kick it from a different perspective.

Even if you do maximize your tax-advantaged accounts (401(k), IRA, HSA, etc.), plain old taxable investment accounts can also have significant tax advantages for people of moderate incomes.

Under current tax law, if you are in the 15% tax bracket or lower, the Federal income tax on long-term capital gains is, get ready...

0%

Also, if you are in the 15% tax bracket, the Federal income tax on qualified dividends, which is what most of your 2% - 3% annual dividends will be if you hold a total US or total international stock market index fund in a taxable account, is, get ready for it, I hope you're sitting down when you read this:

0%

So, if you're a frugal, low-income, FIRE type of person in the 15% Federal tax bracket, lets compare and contrast the tax rates on Roth IRAs and a taxable investment, both of which are after-tax investments:

AccountLTCG Tax RateQualified Dividend Tax Rate
Roth IRA0%0%
Taxable investment0%0%

Now let me get out my calculator to see which is better...hang on a minute...they are the same!

What this means is that, if you're in the 15% tax bracket or lower, if you do a few things right, then the gains on your investments are tax free...just like a Roth IRA.  E.g. you buy 100 shares at $10/share for $1,000, and they rise to $20/share so your investment is now $2,000, you won't have to pay taxes if you realize that $1,000 gain. Similarly, the taxes on qualified dividends, which can significantly erode your gains compared to a tax-sheltered account, are $0 if you keep within the 15% tax bracket.

If you are in the 15% Federal tax bracket, you can "tax gain harvest" enough every year (assuming the value of your funds is rising, which we can hope it is over the long haul) up to the top of the 15% tax bracket so that you continuously reset the basis of your stock holdings to keep your LTCG low, thereby helping keep your in the 15% bracket when you do need to sell stock funds for regular income. See Reset Cost Basis Higher By Realizing Capital Gains for more.

And in years where the stock market goes down, you can tax-loss harvest which lowers your taxable income by up to $3,000 per year, and if you take a $9,000 loss in one year, you can spread that loss out over three years at $3,000 each....or if you take a $90,000 loss, you can spread that out over 30 years at $3,000 each, etc. etc. That's a benefit you can't do in tax-advantaged accounts.

Now, all that being said, what is written above applies to Federal taxes. You will pay state income taxes on these gains and dividends, if you live in a state with an income tax. But state incomes taxes are usually less than Federal.

I agree with all the other posters who say that we have an income tax in our country to pay for our government, so by default if you make income you should pay taxes on it. Now, we also want to reward savings, to a degree, so we let ourselves pay a little less taxes for certain types of long-term savings. But even if you take full advantage of those tax-advantaged retirement savings, there are still tax benefits to investing for people with moderate incomes.

firelight

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Re: Why is there limits on 401k/Roth contributions?
« Reply #10 on: February 15, 2014, 12:52:50 PM »
Thanks everyone! That clears up my questions.

But there is one issue here: I see 401k/Roth 401k contributions to be maxed at 17500 but the total you can do is 52000 for 2014. If all that the government wants is to limit savings in tax advantaged accounts, why have two limits? Why not have just one limit (either 17500 for all (with catchups allowed over a certain age) or 52000 for all)? Why give this loophole?

hoppy08520

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Re: Why is there limits on 401k/Roth contributions?
« Reply #11 on: February 15, 2014, 01:15:30 PM »
Thanks everyone! That clears up my questions.

But there is one issue here: I see 401k/Roth 401k contributions to be maxed at 17500 but the total you can do is 52000 for 2014. If all that the government wants is to limit savings in tax advantaged accounts, why have two limits? Why not have just one limit (either 17500 for all (with catchups allowed over a certain age) or 52000 for all)? Why give this loophole?
The $17,500 limit (for people under 50) is for your own personal contributions to a pre-tax 401(k) or to a Roth 401(k).  The $52,000 limit includes employer matches. It also includes after-tax contributions by the employee to a regular 401(k) if the plan permits these contributions (approximately half do). After-tax contributions can be advantageous if your employer allows for in-service rollover of these after-tax contributions to an IRA. Then, you could convert that IRA to a Roth IRA, which has the effect of letting you contribute waaay more than the annual $5,500 limit.

The rationale for the $52,000 limit is to cap how much companies can give to their high-income earners in a 401(k) plan as company contributions. For example, suppose you get a 3% match of your salary in your 401(k). If you make $100,000 a year, that's $3,000. If you make $2,000,000 a year, that's $60,000. When you add in your own $17,500 contribution, then you have $34,500 to go to get to $52,000. For the $2M earner, his company could only contribute up to $34,500, in spite of the fact that he could have gotten $60,000 with the 3% match if there were no caps.

On_a_slow_boat

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Re: Why is there limits on 401k/Roth contributions?
« Reply #12 on: February 15, 2014, 09:47:36 PM »
I would suggest reading this page from the IRS about the actual limits.

http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics---401%28k%29-and-Profit-Sharing-Plan-Contribution-Limits


Salary about 260,000 USD in 2014 is not eligible for 401k employer matching contributions. 



CDP45

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Re: Why is there limits on 401k/Roth contributions?
« Reply #13 on: February 15, 2014, 10:39:09 PM »
We got some real conspiracy theorists around here.

It's just like some of the more sane sounding posters in this thread have already stated. You need to have some taxable income so the government can collect enough money to function. Don't need the government, you say? Say goodbye to your social programs, roads, police, fire, and hundreds of other services you rely on every day.

Tax advantaged retirement accounts are designed to help people to save enough for retirement that they can survive it, not use loopholes in 401k/IRA tax laws to create tens of thousands of dollars of tax free income every year (which is encouraged enough around here as-is).

Riiiiiiight, the trillions spent on the Middle East wars were just the bare minimum that government needs to function... Keep telling yourself that lie I'm sure the debt will magically decrease and social security will last in perpetuity.

And there's nothing tax free about the 401k, it just defers a small portion of income taxes until later.

And no you can't save every penny because 40 pennies of every dollar are lost, thus the concern over 401k limits. The 15% tax bracket is a function of income, not spending.

hoppy08520

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Re: Why is there limits on 401k/Roth contributions?
« Reply #14 on: February 16, 2014, 10:30:46 AM »
I would suggest reading this page from the IRS about the actual limits.
http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics---401%28k%29-and-Profit-Sharing-Plan-Contribution-Limits
Salary about 260,000 USD in 2014 is not eligible for 401k employer matching contributions.
Thanks, I didn't know that! So far that limit hasn't been a problem for me :-)

At any rate, the same principle applies that the $52K limit (if under 50) is [employer contributions + employee contributions + aftertax employee contributions]