Beginning in January 2024, high-income taxpayers who wish to make catch-up contributions to traditional retirement accounts will be required to characterize those contributions as Roth contributions, rather than pre-tax contributions. Of course, not all 401(k) and 403(b) sponsors currently offer a Roth contribution option in connection with their traditional plan. If business owners wish to give their high-income employees the option of taking advantage of the new and expanded catch-up contribution rules, they must proactively amend their plans to include this Roth contribution option. Employers who want to give high-income taxpayers the option should not wait until the last minute to take action—it's important for these clients to understand that if they wait until the last minute, it could be too late to offer a catch-up option for 2024.
New SECURE 2.0 Roth-ification rule
Under current law, individuals who have reached age 50 and older are permitted to make additional catch-up contributions to retirement accounts. For company-sponsored retirement plans (including 401(k)s and 403(b) plans), the catch-up contribution limit is $7,500 in 2023. The $7,500 catch-up contribution limit is indexed for inflation.
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Under SECURE 2.0, starting in 2024, if the taxpayer has income of at least $145,000 for the year, the catch-up contribution must be treated as a Roth contribution. That means these funds are contributed with after-tax dollars, so they will not reduce current taxable income, but can be withdrawn tax-free in the future. The $145,000 income threshold will also be indexed for inflation in future years.
Starting in 2025, a new special catch-up contribution is permitted for taxpayers who are between ages 60 and 63. That contribution limit will be equal to the greater of (1) $10,000 or (2) 150% of the standard catch-up contribution limit for 2024. The $10,000 limit will also be indexed for inflation. Once the taxpayer reaches age 64, the regular (lower) catch-up contribution limit applies.
Presumably, to take advantage of the special increased catch-up contribution, high-income employees must also be given the Roth option.
Need-to-know for plan sponsors on the new Roth rules
For employers who wish to offer their employees who earn more than $145,000 annually a catch-up contribution option, they must first contact their plan recordkeeper to request the changes. Unfortunately, it can sometimes take months for an amendment to be processed and implemented by the recordkeepers.
Some plan recordkeepers also limit the number of changes and amendments that they will process in any given year because of staffing constraints. Given the number of employers who will be interested in amending their plans to permit Roth catch-up contribution options this year, it's important to act early to avoid delays.
Employers must also communicate the changes regarding catch-up contributions to their employees. Further, these employees will be required to update payroll systems to accommodate the Roth contribution changes for high-income employees.
There are also many issues that employers will have to grapple with as the new program is implemented. For example, it's unclear whether employers may only allow Roth catch-up contributions, as opposed to regular Roth contributions by employees. It's also uncertain whether employers can continue to offer catch-up contributions to lower-income employees without providing the Roth catch-up contribution option for high-income employees.
Some employers also take advantage of the ability to recharacterize regular contributions made in excess of the annual deferral limits as catch-up contributions. With the new Roth mandate for high-income taxpayers, it's unclear whether employers will be entitled to continue to do so.
Related: SECURE 2.0: Plan sponsors, check off mandatory provisions first, then new options
Many questions about the Roth catch-up contribution mandate still remain. However, that does not mean that small business clients should wait to act when it comes to requesting amendments to permit a Roth option for higher-income employees. The ability to make catch-up contributions (and special catch-up contributions) is a valuable employment benefit, and employers should begin evaluating their options today.
Prof. Robert Bloink has taught at the Texas A&M University School of Law and the Thomas Jefferson School of Law. Prof. William H. Byrnes is an executive professor and associate dean of special projects at the Texas A&M University School of Law. Bloink and Byrnes are also co-authors of Tax Facts, a reference solution that helps to answer critical tax questions and provides the latest tax developments.
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