There is no minimum amount you are required to contribute to your 401(k). However, there are suggested amounts to help maximize your retirement potential. There is a maximum amount you are allowed to contribute to a 401(k) annually, as established under federal law.
What Are the Suggested Amounts for 401(k) Contributions?
By the time you reach age 35, some financial experts say you should have a sum equal to the amount of your annual income in your 401(k), and by the time you turn 45, you should have three times that amount. So, if you make $50,000 a year, for example, you should have $50,000 in your 401(k) by the time you turn 35 and $150,000 by the time you turn 45.
Other experts advise employees to invest between 6% and 10% of their income in their 401(k). If your monthly salary is $2,000, following these guidelines, you would be saving $120 to $200 per month. For many people, this is a more realistic goal. 401(k) contributions are made with pre-tax dollars. The amount you contribute will reduce your gross income, which will, in turn, reduce your income taxes.
What Are The Maximum 401(k) Contributions Allowed?
As of 2020, workers under the age of 50 are allowed to contribute a maximum of $19,500 to a 401(k) per year, as stated by the IRS. Workers aged 50 and older are permitted to make catch-up contributions in addition to the $19,500. The maximum amount allowable for catch-up contributions in 2020 is $6,500. In other words, an employee who is age 50 or older can contribute a maximum of $26,000 to a 401(k) in 2020. These maximum annual amounts break down to approximately $1,625 per month for workers under the age of 50 and $2,167 per month for workers age 50 and older. There is no maximum age limit for contributions. You can continue making them as long as you work for the company that sponsors the plan.
What Are The Restrictions & Requirements For Withdrawing 401(k) Funds?
If 401(k) funds are withdrawn before you turn 59 ½, the IRS imposes a 10% early withdrawal penalty. Also, once you turn a certain age, you are required to start taking a minimum of 401(k) distributions. The SECURE Act of 2019 changed the age at which these minimum distributions must begin. If you were born after June 30, 1949, your first required minimum distribution will be the year you turn 72. If you were born on or before June 30, 1949, you are still required to begin taking minimum distributions at age 70 ½.
401(k) Contributions & Income Taxes
401(k) contributions are made with pre-tax dollars. The amount you contribute will reduce your gross income, which will in turn reduce your income taxes.
In some cases, employees may have the option to set up a Roth 401(k). With this type of retirement plan, contributions are taxed at the time they are made. The advantage of this is your withdrawals during retirement will not be taxed, and neither will the earnings on the funds in your Roth 401(k).