Feature Articles
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New Rules For 2002 Open More 401(k) Savings Opportunities
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By Clifton Linton
Senior Writer, mPower |
In addition to a nice tax cut, the 2001 tax bill
included new rules making your 401(k) plan a more useful tool to build a retirement nest
egg.
Congress' altruism is based on concerns that Americans will
not have enough savings to last them through retirement. The rules concerning the majority
of savers focus on broadening the contribution limits, making it easier for workers to
roll their money into a new employer's plan when changing jobs, easing the way for small
businesses to open plans, and tossing in a tax credit for low- and moderate-income savers.
The one area of 401(k) regulations that Congress didn't
touch were the rules concerning discrimination tests. These tests ensure that a plan is
offered fairly to all employees. So, while it may appear that all these limit increases
will benefit the high earners, the reality is that for those employees to take full
advantage of the changes, they will have to encourage more employees to enroll in their
plans and boost their contribution levels. The tax-credit for low- and moderate-income
savers was meant to be an incentive to help that along.
While these rules become effective in 2002, your ability to
take advantage of some of them depends on when your plan adopts them. Check with your
benefits department for details specific to your plan.
Here's a review of the major changes:
New Contribution Limits
| New 401(k)
Contribution Limits for 2002 |
|
2001 |
Effective 2002 |
| Individual annual contribution limit |
$10,500 subject to percent-of-pay limit (see
below) |
- $11,000 a year for 2002
- $12,000 a year for 2003
- $13,000 a year for 2004
- $14,000 a year for 2005
- $15,000 a year for 2006
Beyond 2006 the limit will be adjusted for inflation annually. The increased limits are
also subject to the percent-of-pay limit. (see below) |
| SIMPLE 401(k) plan individual annual
contribution limit |
$6,500. |
$7,000 in 2002
$8,000 in 2003
$9,000 in 2004
$10,000 in 2005.
Future increases will be indexed to inflation. |
| Percent-of-pay limit |
25 percent of compensation or $35,000,
whichever is less. |
100 percent of salary or $40,000, whichever
is less. The $40,000 limit will be indexed to inflation and will adjust in $1,000
increments. |
| Maximum includable compensation limit |
$170,000 |
$200,000. This limit will be indexed to
inflation and will adjust in $5,000 increments. |
| Catch-up contributions |
Nonexistent |
Allowed by all 401(k) savers age 50 and
older. This limit is added to all other limits, and these contributions will not be
subject to discrimination tests. The limit will be:
- $1,000 in 2002
- $2,000 in 2003
- $3,000 in 2004
- $4,000 in 2005
- $5,000 in 2006
Starting in 2007, the limit will be indexed to inflation
and will rise in $500 increments. |
| SIMPLE 401(k) plan catch-up contributions |
Nonexistent |
Available to all SIMPLE 401(k) participants
over age 50. The catch-up contribution limits are as follows:
$500 in 2002
$1,000 in 2003
$1,500 in 2004
$2,000 in 2005
$2,500 in 2006
In 2007 and beyond, further increases will be indexed to inflation and the limit will
increase in $500 increments. |
| Low-income savers credit |
Nonexistent |
Low- and moderate-income savers can claim a
non-refundable tax credit on the first $2,000 in contributions. This credit is claimed on
your tax return and the amount is based on your adjusted gross income (AGI). - Individuals with an AGI of $0 to $15,000 and those filing
married-jointly with an AGI of $0 to $30,000 may claim a 50 percent tax credit on their
contributions.
- Individuals with an AGI of $15,001 to $16,250 and married filing jointly with AGI of
$30,001 to $32,500 may claim a credit of 20 percent.
- Individuals with an AGI of $16,251 to $25,000 and married filing jointly with AGI of
$32,501 to $50,000 may claim a credit of 10 percent.
This credit can be taken in addition to the standard tax
deduction allowed for 401(k) contributions. |
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New Portability Rules
| New Portability
Rules |
|
2001 |
Effective 2002 |
| Portability |
Limited — rollovers from 401(k) plans to
an IRA could only be rolled back to a new 401(k) plan (not 403(b) or 457). Money rolled
over from an employer plan could not be mixed with contributory IRA funds and earnings.
(See item below) |
Greatly expanded — 401(k) rollovers to
an IRA may be subsequently rolled to a new employer's 401(k), 403(b) or 457 plan. |
| Portability of IRA contributions to employer
plan |
Not allowed. Original after- or pre-tax
contributions to an IRA could not be rolled to an employer's plan. |
Allowed. Savers may roll original pre- and
after-tax IRA contributions into an employer's retirement plan, such as a 401(k), 403(b)
or 457. |
| Portability of after-tax contributions to
employer-retirement savings plan |
Rollovers of after-tax contributions to a
403(b) or 401(k) plan to an IRA were not allowed. |
Allowed. |
| Automatic Rollover to IRAs from Employer
plans |
Nonexistent |
For workers with 401(k) balances of more than
$1,000 and less than $5,000, employers may choose to automatically roll this balance into
an IRA account on the employee's behalf. |
|
Vesting, Small Business Rules
| Vesting and
Small Business Rules |
|
2001 |
Effective 2002 |
| Vesting of employer contributions —
maximum time allowed before contributions are fully vested |
Cliff vesting: five years
Graded vesting: seven years |
Cliff vesting: three years
Graded vesting: six years |
| Same Desk Rule |
Under certain circumstances, if a business
was sold, employees who kept the same job with the new employer were not allowed to
withdraw money from their former employer's 401(k) plan because they were not seen to have
"separated from service." |
The same desk rule is eliminated, as the
phrase "separation from service" is replaced with "severance from
employment" in the Internal Revenue Code. |
| Small Business Tax Credit |
Nonexistent |
Some small employers will be allowed to claim
a non-refundable tax credit to help offset plan start-up costs. This credit will apply to
50 percent of the first $1,000 spent for administrative and education costs for three
years after starting a new plan. It is only available to employers with 100 or fewer
workers. |
| Top-Heavy Rules |
To ensure that an employer-sponsored
retirement plan is offered fairly to all employees, the government set certain testing
rules for figuring if "key employees" (commonly officers and family members) are
receiving an unfair portion of the plan benefits. The government rules require that plans
that are characterized as top-heavy make minimum contributions for all non-key employees.
Employer contributions must also vest under a special schedule. |
The law simplifies the definition of a key
employee and changes the rules concerning top-heavy plans. A key employee is defined as:
A. A company officer with compensation more than $130,000;
B. A 5 percent owner; or
C. A 1 percent owner with compensation greater than $150,000.
The family aggregation rules will not be modified for
determining key employees.
Matching contributions will count toward the minimum
contribution rules.
Look back rules, used for determining key employees will be
shortened, and
401(k) plans adopting safe-harbors will not be considered
top-heavy. |
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The information provided here is intended to help you understand the general issue and
does not constitute any tax, investment or legal advice. Consult your financial, tax or
legal advisor regarding your own unique situation and your company's benefits
representative for rules specific to your plan.
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premier online community resource for 401(k) participants
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