Those with a higher income should pay full attention to this information, if you have been persistently saving money for retirement through a traditional 401(k) plan, a big change is coming, all because of one of the changes that Congress made in 2022 to help American workers improve their retirement savings, starting in 2026, you may lose some of the tax and recovery benefits you’re used to.
The SECURE 2.0 Act, which was passed by Congress two years ago, interrupts the “catch-up” contributions used by older and higher-income people. Starting next year, 2026, those recoveries will have to be designated as contributions After-tax Roth instead of the usual 401(k).
The change is not only a simple name change, as traditional 401(k) and Roth IRA accounts are retirement vehicles that differ greatly in terms of benefits and noticeably different tax considerations.
The End of Traditional 401(k) Catch-Up Contributions?
Employer-sponsored 401(k) accounts have become the default retirement vehicle for handfuls of U.S. workers, with about 70% of Americans working in the private sector having access to employer-sponsored retirement plans as of March 2022, according to the Bureau of Labor Statistics. However, only 52% of private sector workers take advantage of them.
Forget about 401(k)s, which provide employees with a safe and steady wealth builder, the focus on pre-tax contributions also decreases the taxpayer’s taxable income, although, that tax bill is delayed toward retirement when the Withdrawals from 401(k)s become taxable events.
How New Legislation Will Affect Your 401(k) Contributions
Roths are different, although contributions to these accounts are deducted directly from the final net salary, the Roth advantages reach age 59.5, when taxpayers can begin withdrawing their Roth funds, without taxes involved.
How does SECURE 2.0 change the situation for savers trying to catch up for retirement?
In 2024, for example, workers age 50 and older will be able to make extra contributions of up to $8,000 into their 401(k) accounts. The total annual contribution limit for all 401(k) contributions is $30,500.
Now, for next year, 2026, high-income earners aged 50 or older who earn more than $145,000 will no longer be able to make catch-up contributions to regular 401(k) plans. Instead, those catch-ups will go to Roth accounts. This carries important tax implications.
The ‘Rothification’ of Retirement Savings
Among the various changes included in the law, the change in the recovery contribution stands out because it generates a change, fundamentally, the tax advantages sought by older workers who use recovery contributions to compensate for lost time.
For higher-income Americans, who have long benefited from the significant up-front tax relief offered by traditional 401(k) plans, switching to Roth accounts eliminates that benefit, potentially increasing your that person’s tax obligation in the short term.
