Posted on: Thursday, January 3, 2002

Tax savings in effect for 401(k)-type plans

Advertiser News Services

Tax law changes passed last year affect tax-deductible retirement plans with the start of the new year.

The Economic Growth and Tax Relief Act of 2001 made some changes to 401(k)s that sprinkle tax savings across a variety of investment options, allowing consumers to save more, consolidate retirement plan accounts and make up for lost time with extra contributions.

Most of the changes involve employer plans, such as 401(k)s. And the employer decides whether to offer them or not. New types of plans will potentially be available. More liberal ways of figuring tax-deductible contributions will be allowed.

All the changes to retirement plans officially last only for 10 years. In 2011, every provision in the 2001 legislation, including the tax cuts, will be repealed.

But most of the new options for company plans are voluntary, not required, so experts are urging employees to check with their employers about whether any changes are being made to company plans.

Thanks to the new tax bill, consumers can save even more through a 401(k). While in 2001 you could contribute a pre-tax maximum of $10,500 annually, by the year 2006 you'll be able to save up to $15,000 through pre-tax contributions.

This year, the maximum contribution is $11,000; it continues to increase by $1,000 every year through 2006. After 2006, contribution limits will be increased in $500 increments to factor in the effects of inflation.

The new tax bill also increases the limits on total contributions to defined contribution plans, like 401(k)s. These are your contributions and your employer's contributions to all plans combined.

The limit used to be either 25 percent of your compensation or $35,000 annually — whichever was less. Now it's 100 percent of your compensation or $40,000 — whichever is less.

Another important change that affects how much consumers can save through a 401(k) is an increase in eligible compensation.

Before, only $170,000 in compensation was considered eligible for 401(k) contributions. Beginning this year, the tax bill increased that limit to $200,000, which allows increased contributions for higher income individuals.