New Limits for 2022 and Other Year-End Considerations
As we enter the home stretch for 2021, plan sponsors are beginning to encounter the typical questions that arise near the end of each calendar year. This month’s newsletter is intended to help you to be prepared for those questions.
New Limits for 2022. In early November, the IRS published the various qualified plan limits that will apply in 2022. After multiple years of limited movement, recent inflationary changes have caused many changes in limits for 2022. Among those most likely to affect most qualified plans:
- The limit on the amount a participant may elect to defer (the “402(g) limit”) increases from $19,500 to $20,500.
- The total amount that may be contributed to a participant’s defined contribution plan accounts (the “415(c) limit”) – including employee and employer contributions – increases from $58,000 to $61,000.
- The limit on the amount of compensation that may be taken into account (the “401(a)(17) limit”) increases from $290,000 to $305,000.
- The annual benefit limit for defined benefit plans (the “415(b) limit”) increases from $230,000 to $245,000.
- The compensation thresholds increase for the following purposes: (i) highly compensated employee, from $130,000 to $135,000; (ii) key employee, from $185,000 to $200,000; and (iii) social security taxable wage base, from $142,800 to $147,000.
These limits do not impact savings opportunities for the 2021 tax year, but they impact payroll process programming and employee deferral elections for 2022.
In-Plan Roth Rollovers. With increasing frequency, defined contribution plans permit “in-plan Roth conversions”. In overly general terms, such a conversion permits a participant to convert a pre-tax amount to a Roth amount – without receiving a physical distribution from the Plan.
The plan feature has become more popular as participants have increased their appreciation for Roth contributions and begun to anticipate higher tax rates in future years. Many will understand the tax consequences – taxation in the current year. For example, a conversion made in 2021 will be treated as a distribution in 2021 and taxed accordingly. However, many participants will not understand the tax consequences, which increases the importance of human resources and benefits professionals proactively and clearly communicating with employees who ask about in-plan Roth conversions. This is a great tool that can result in a bad surprise without good communication.
True-up Contributions. Employer matching contributions can be calculated in various ways. The most common ways involve a calculation: (1) each payroll period; or (2) on a plan year basis.
The payroll period approach is pretty straightforward; a matching contribution is made for a payroll period only if there is a corresponding participant deferral, and only up to the limit under the plan’s formula. However, this also means that participants could be in for a surprise if they front load their contributions or otherwise contribute on an infrequent basis that results in them missing out on some of the matching contribution.
The plan year approach avoids that surprise by including an end-of-the-year “true up” process through which a plan sponsor essentially answers this question: if the matching contribution were calculated over the course of the entire plan year, how much would the participant have received? To the extent the answer is “more than what has already been made”, the participant receives an additional contribution to “true up” the account.
Why is this important now? Participants are starting to look at the matching contribution amounts they’ve received this year. In the case of a plan that uses the payroll period method, they’re starting to ask “why is my matching contribution lower than I’d expect?” It is helpful for plan sponsors to understand the difference in approaches and to be able to consider changes for future years, if desired.
Plan Loans. The holiday season increases the temptation for participants to request plan loans. It also ups the ante for participants to receive education before making those decisions. Over the last six months, we have encountered clear trends among plan sponsors: (1) asking us to provide more educational materials for potential borrowers; (2) reducing the number of permissible loans; and (3) adding in “cooling off” periods that delay the ability for habitual borrowers to initiate a new loan after paying off the last one.