Recs

5

401(k) Limits 2014: How Much Can You Contribute?

When the government gives you an opportunity to avoid income taxes, you should take it. It's for this reason that you need to know the 401(k) limits for 2014.

How a 401(k) can save you thousands of dollars
The 401(k) plan gets its name from the corresponding section of the Internal Revenue Code, which allows wage earners to deduct their annual contribution to a retirement account before taxes.

Here's why this matters: Let's assume that Susie earns $75,000 in taxable income each year working as a manager of a local appliance store. Excluding the impact of any other deductions, Susie would end up owing the federal government $14,606 in income taxes.

By contrast, now let's assume that Susie contributes $15,000 to her 401(k), which is well below the limit for 2014. By doing so, Susie reduces her taxable income to $60,000 and thereby drives her income tax liability down to $10,856.

The immediate benefit to Susie, in other words, is a $3,750 cut to her tax bill.

Income Tax Line Item

Without 401(k) contribution

With 401(k) contribution of $15,000

Gross Income

$75,000

$75,000

Taxable Income

$75,000

$60,000

Tax Bill

$14,606

$10,856

Savings

$0

$3,750

Excluding the impact of all other credits and deductions. Source: author.

Taking this one step further, if you compare Susie's savings to the amount she set aside (that is, $15,000), then she effectively achieved a single-year return on investment of 25%, or nearly triple the long-run average of the S&P 500 (SNPINDEX: ^GSPC  ) .

The point here is that it's a mistake to forgo the opportunity to get such a phenomenal return if you're in a position to do so.

So how much can you contribute?
For 2014, the limits for a traditional 401(k) are $17,500 for elective deferrals -- that is, what you choose to contribute. Additionally, your employer can match your contributions up to the lesser of 100% of your compensation or a combined $52,000.

To revisit Susie, in turn, if she elects to contribute $15,000 in 2014, then her employer could provide an additional $36,000 in funds to her retirement fund -- which, by all accounts is probably unrealistic, but you get the point.

Now, just to be clear, Susie would only be able to deduct the amount that she contributed from her 2014 income taxes. That aside, even if your employer only matches 10% of your contributions, it would still boost your overall theoretical return on investment to 35% (25% from the tax benefit plus 10% for the matching program).

The point here is that taxpayers are rarely given the opportunity to have a legal tax shelter like the 401(k). Consequently, it'd behoove you to take advantage of it to the fullest for as long as you can.

How to get even more income during retirement
Social Security plays a key role in your financial security, but it's not the only way to boost your retirement income. In our brand-new free report, our retirement experts give their insight on a simple strategy to take advantage of a little-known IRS rule that can help ensure a more comfortable retirement for you and your family. Click here to get your copy today.


Read/Post Comments (0) | Recommend This Article (5)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

Be the first one to comment on this article.

Sponsored Links

Leaked: Apple's Next Smart Device
(Warning, it may shock you)
The secret is out... experts are predicting 458 million of these types of devices will be sold per year. 1 hyper-growth company stands to rake in maximum profit - and it's NOT Apple. Show me Apple's new smart gizmo!

DocumentId: 2959128, ~/Articles/ArticleHandler.aspx, 10/22/2014 2:32:36 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

John Maxfield
JohnMaxfield37

John has been writing for The Motley Fool since 2011. As a senior banking analyst, he covers the financial industry and the nation's largest banks in particular. He has a bachelor's degree in economics from Lewis and Clark College and a juris doctorate from Southern Methodist University. He's a licensed attorney in the state of Oregon, and resides in Portland with his wife and twin sons. View John Maxfield's profile on LinkedIn

Today's Market

updated 5 hours ago Sponsored by:
DOW 16,614.81 215.14 1.31%
S&P 500 1,941.28 37.27 1.96%
NASD 4,419.48 103.40 2.40%

Create My Watchlist

Go to My Watchlist

You don't seem to be following any stocks yet!

Better investing starts with a watchlist. Now you can create a personalized watchlist and get immediate access to the personalized information you need to make successful investing decisions.

Data delayed up to 5 minutes

Related Tickers

10/21/2014 4:34 PM
^GSPC $1941.28 Up +37.27 +1.96%
S&P 500 INDEX CAPS Rating: No stars

Advertisement