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  1. Retirement
  2. 401(k)

New rule may mandate lower 401(k) contribution limits in 2010

Published: Aug 27, 2009 4 min read

There doesn’t seem to be much Washington can agree on these days. But I don't think I'm going to go out on a limb by saying that one issue with widespread bipartisan support is the need for Americans to save more for retirement. So you have to imagine there is going to be some quick hustling to avert an oncoming p.r. train wreck: the IRS soon may be forced to impose a lower maximum contribution limit for 401(k)s in 2010. Yes, Washington may tell us it is forcing us to save LESS next year. Not exactly what you want to center your mid-term election campaign on.

The culprit here is low inflation. The annual 401(k) contribution limit is set by comparing the Consumer Price Index (CPI) for the third quarter of the preceding year to a base level. If the August and September CPI numbers come in as low as July, the Q3 inflation number plugged into the calculation could trigger a decline in the 2010 contribution limit. According to an analysis by Mercer’s Washington Resource Group the 2010 limit might drop from $16,500 to $16,000 for individuals younger than 50, and the catch up contribution for the 50+ cohort might decline from $5,500 to $5,000.

The IRS is scheduled to announce the 2010 limits on October 15. Even if the IRS regulation mandates a reduction in the contribution limit it would be a shocker if Congress doesn’t jump in with a fix.

But the unfortunate reality is that even if the limits were reduced it wouldn’t have much impact on Americans retirement savings. According to a Financial Engines survey of more than 550,000 401(k) accounts, only 7% of participants came within $500 of contributing the maximum allowed by the IRS or their plan limit. So for 93% of Americans this is a bit of a non-issue. (The fact that 93% of Americans should be saving more is an entirely different topic.)

IRAs don’t face the same low-inflation pickle. The formula for computing IRA limits uses the trailing 12-month CPI (through August) to set IRA limits and that stat is expected to show an increase. It won’t likely be enough to budge the IRA limits up for 2010, but will ensure the limits can remain at their 2009 level: $5,000 for individuals under 50; $6,000 if you are 50 or older.

Social Security payouts are where low-inflation is going to do real damage. For the first time since annual cost-of-living adjustments were mandated in 1975, it looks like there will be no COLA increase for 2010 Social Security benefits. In fact, the Obama Administration’s budget forecast assumes there will be no COLA increase in 2011 either. Yet Medicare Part B premiums are expected to rise. That means the net payments to Social Security beneficiaries will be declining in 2010 (and probably 2011.) Let’s see what Congress has to say about that.