Congress recently approved expanded benefits for retirement savings as part of President Bush’s massive tax cut bill. We’ll run down the major changes that will affect employers and employees.
Employer-Sponsored Plan Limits Raised
The maximum employee contribution to 401(k) tax-deferred retirement savings plans offered by employers will increase from $10,500 this year to $11,000 in 2002. There will be an additional $1,000 increase each year thereafter, up to $15,000 in 2006. After that, the contribution cap will be adjusted annually for inflation. The same contribution rules apply to simplified employee pensions (SEP), 403(b) annuities offered by nonprofit employers, and government-sponsored 457 plans. The new legislation also raises the maximum you may put into an individual retirement account from the current $2,000 to $5,000 by 2008.
Employer Contributions Vest More Quickly
The new law will also speed up vesting of matching contributions to employer-sponsored plans. Employer-matching contributions will now have to vest 100% after three years of service, or 20% per year of service beginning after the second year and reaching 100% after six years. The new requirement applies to contributions for plan years beginning after Dec. 31, 2001. Matching contributions previously had to vest either 100% after five years of service, or 20% per year of service beginning after the third year and reaching 100% after seven years.
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Catch-Up Contributions
Under the new law, employees age 50 and older can make larger contributions to employer-sponsored tax-deferred retirement savings plans such as 401(k)s and IRAs. They can put an extra $1,000 into their employer-sponsored savings plans next year, $2,000 in 2003, $3,000 in 2004, $4,000 in 2005 and $5,000 in 2006 and subsequent years.
Small-Employer Incentives
The new law includes provisions to encourage small employers to sponsor retirement plans. It provides an annual $500 tax credit to offset plan start-up costs for small employers during the first three years of plan operation. The existing tax deduction for plan administrative costs often has limited value to small employers with slim profit margins, but the new $500 tax credit gets subtracted right off their tax bill. Costs that exceed the credit may then be deducted. The credit is effective for costs incurred after 2001 for plans established after that year.
Education Assistance Programs
Besides the pension provisions, the new law also includes a tax exclusion that permits employers to provide up to $5,250 per year in tax-free education assistance to an employee. After Dec. 31, 2001, it applies to both graduate and undergraduate classes.