Saving for retirement is crucial, and for highly compensated employees (HCEs), the rules around 401(k) contributions can be both a blessing and a challenge. While you have the earning power to save significantly, the IRS has specific regulations in place to ensure that retirement plans don't disproportionately benefit high earners over other employees. Navigating these rules for 2024 requires a clear understanding of what you can contribute and how your employer's plan operates.
So, are you ready to unlock the maximum potential of your 401(k) as a highly compensated employee in 2024? Let's dive in!
Understanding Your 401(k) Contribution Potential as an HCE in 2024
Being a Highly Compensated Employee (HCE) comes with certain distinctions when it comes to your 401(k). The IRS defines an HCE based on specific criteria, and these definitions directly impact how much you can contribute.
Step 1: Am I a Highly Compensated Employee (HCE) for 2024?
Before we talk numbers, it's essential to confirm if you fall under the HCE classification for the 2024 tax year. The IRS uses a look-back rule, meaning your HCE status for 2024 is generally determined by your compensation and ownership status in 2023.
Here's how you're classified as an HCE for 2024:
Compensation Test: You were paid more than $155,000 in 2023.
Ownership Test: You owned more than 5% of the interest in the business at any time during 2023 or 2024, regardless of your compensation. This includes ownership attributed through family members (spouse, children, parents, grandparents).
Top-Paid Group Election (Optional for Employer): If your employer chooses, they can also limit HCEs by considering only the top 20% of employees when ranked by compensation. So, even if you earned over the compensation threshold, if you weren't in the top 20% of earners at your company, you might not be classified as an HCE under this election.
Why does this matter? Because HCEs are subject to specific "nondiscrimination tests" (ADP and ACP tests) that ensure your plan doesn't unfairly favor you over Non-Highly Compensated Employees (NHCEs). If the plan fails these tests, your contributions might be limited or even refunded.
Step 2: Grasping the Core 401(k) Contribution Limits for 2024
Regardless of your HCE status, everyone has a baseline limit for employee contributions to their 401(k).
2.1 Employee Elective Deferral Limit
For 2024, the maximum amount you can contribute from your salary to a 401(k) plan (traditional or Roth) is $23,000. This is your personal contribution limit and applies across all 401(k) accounts you might have (e.g., if you switched jobs mid-year).
Remember: This limit only applies to your elective deferrals – the money you choose to contribute from your paycheck. It does not include any contributions made by your employer.
2.2 Catch-Up Contributions (Age 50 and Over)
If you are age 50 or older by the end of 2024, you're eligible for an additional "catch-up" contribution. For 2024, this catch-up contribution is $7,500.
This means if you're 50 or older, you can contribute a total of $23,000 (regular) + $7,500 (catch-up) = $30,500 from your salary to your 401(k) in 2024.
Step 3: Understanding the Overall Contribution Limit (Employee + Employer)
This is where things get a bit more nuanced, especially for HCEs. There's an overall limit on how much can be contributed to your 401(k) account from all sources (your contributions, employer matching contributions, employer profit-sharing contributions, and any forfeitures allocated to your account).
For 2024, the overall limit for defined contribution plans (like 401(k)s) is the lesser of:
100% of your compensation, or
$69,000 ($76,500 if you're age 50 or older, including the catch-up contribution).
This means that if your employer contributes generously, your personal elective deferral might be capped even if you haven't reached your $23,000 (or $30,500) individual limit, due to the total contributions nearing this higher overall limit.
3.1 The Importance of Employer Contributions
Many employers offer matching contributions or profit-sharing contributions to their 401(k) plans. These employer contributions are in addition to your elective deferrals but do count towards the overall $69,000 ($76,500 for age 50+) limit.
It's always a good idea to contribute at least enough to your 401(k) to receive the full employer match, as this is essentially free money for your retirement.
Step 4: Navigating Nondiscrimination Testing (The HCE Hurdle)
This is perhaps the most significant factor affecting how much an HCE can truly contribute. To maintain their tax-advantaged status, 401(k) plans must pass annual nondiscrimination tests, primarily the Actual Deferral Percentage (ADP) test and the Actual Contribution Percentage (ACP) test. These tests compare the average contribution rates of HCEs to those of NHCEs.
4.1 Actual Deferral Percentage (ADP) Test
The ADP test looks at employee elective deferrals (both pre-tax and Roth). The average deferral percentage for HCEs cannot exceed the greater of:
125% of the NHCEs' ADP, or
The lesser of: 200% of the NHCEs' ADP, or the NHCEs' ADP plus 2%.
Example: If the average ADP for NHCEs is 4%, the HCEs' average ADP cannot exceed 6% (4% + 2%). If the NHCEs' average ADP is 8%, the HCEs' average ADP cannot exceed 10% (8% + 2%).
If the plan fails the ADP test, HCEs might have their contributions refunded (called "excess contributions") or the employer might make additional contributions (Qualified Nonelective Contributions - QNECs) to NHCEs to bring the plan into compliance.
4.2 Actual Contribution Percentage (ACP) Test
The ACP test is similar but focuses on employer matching contributions and any after-tax employee contributions. The same percentage rules apply as with the ADP test.
4.3 Why HCEs are often Impacted
Because HCEs generally have higher disposable income, they tend to contribute a higher percentage of their salaries to their 401(k)s. If NHCEs don't contribute enough, the plan can fail these tests, leading to limitations for HCEs.
This means that even if the IRS limits say you can contribute $23,000, your actual allowable contribution might be lower if your company's plan fails nondiscrimination testing.
Step 5: Exploring Additional Savings Strategies (Beyond the Basics)
Even with the HCE limitations, there are still ways to maximize your retirement savings.
5.1 After-Tax 401(k) Contributions and the "Mega Backdoor Roth"
If your plan allows for after-tax contributions, this can be a powerful strategy. After-tax contributions are not subject to the elective deferral limit ($23,000/$30,500) but do count towards the overall contribution limit ($69,000/$76,500).
The "Mega Backdoor Roth" strategy involves:
Contributing after-tax money to your 401(k) (up to the overall limit, minus your employee and employer contributions).
Immediately converting these after-tax funds to a Roth 401(k) (if your plan allows in-plan conversions) or rolling them over to a Roth IRA.
The benefit here is that while your after-tax contributions were already taxed, any future earnings on those funds, once converted to Roth, will be tax-free in retirement, provided you meet Roth distribution rules. This is a sophisticated strategy and requires your plan to allow after-tax contributions and in-plan Roth conversions or rollovers to an outside Roth IRA.
5.2 Nonqualified Deferred Compensation (NQDC) Plans
For very highly compensated employees, if your 401(k) contributions are significantly limited by IRS rules or nondiscrimination testing, your employer might offer a Nonqualified Deferred Compensation (NQDC) plan. These plans allow you to defer a portion of your income on a pre-tax basis, without the contribution limits of qualified plans like 401(k)s. However, NQDC plans come with different risks (e.g., they are not protected in bankruptcy like 401(k)s) and are typically only available to a select group of executives.
5.3 Health Savings Accounts (HSAs)
While not a 401(k), if you're enrolled in a high-deductible health plan (HDHP), an HSA can be an excellent additional retirement savings vehicle. HSAs offer a "triple tax advantage":
Contributions are tax-deductible.
Earnings grow tax-free.
Qualified withdrawals for medical expenses are tax-free.
In 2024, the HSA contribution limits are $4,150 for self-only coverage and $8,300 for family coverage. If you're 55 or older, you can contribute an additional $1,000 catch-up. Over time, an HSA can accumulate a substantial amount of tax-free money that can be used for healthcare costs in retirement, freeing up your other retirement savings.
Step 6: Staying Informed and Consulting Professionals
The rules and limits for retirement plans can change annually, and HCE status adds layers of complexity.
Review your plan's Summary Plan Description (SPD): This document outlines the specifics of your company's 401(k) plan, including whether after-tax contributions are allowed and how nondiscrimination testing is handled.
Communicate with your HR or plan administrator: They can provide insights into how your company's plan typically performs on nondiscrimination tests and any potential limitations you might face.
Consult a financial advisor: For complex situations, especially when considering strategies like the Mega Backdoor Roth or NQDC plans, a qualified financial advisor can help you navigate the rules and create a comprehensive retirement savings strategy tailored to your individual circumstances.
10 Related FAQ Questions
Here are 10 frequently asked questions, specifically starting with "How to," related to 401(k) contributions for highly compensated employees in 2024, with quick answers:
How to determine if I am a Highly Compensated Employee (HCE) for 2024?
You are generally an HCE for 2024 if you earned over $155,000 in 2023 or owned more than 5% of the company at any time in 2023 or 2024. Your employer might also limit HCE status to the top 20% of earners.
How to maximize my employee 401(k) contributions in 2024 if I'm an HCE?
Contribute the maximum employee elective deferral of $23,000 ($30,500 if age 50 or older), but be aware that nondiscrimination testing results might limit your actual deferrals.
How to take advantage of catch-up contributions if I'm an HCE?
If you are age 50 or older by the end of 2024, you can contribute an additional $7,500, bringing your total individual deferral limit to $30,500. This is generally available to all eligible employees, including HCEs.
How to understand the overall 401(k) contribution limit for HCEs in 2024?
The total amount contributed to your 401(k) from all sources (your deferrals, employer contributions, and forfeitures) cannot exceed the lesser of 100% of your compensation or $69,000 ($76,500 if age 50 or older).
How to minimize the impact of nondiscrimination testing on my HCE contributions?
Encourage your Non-Highly Compensated Employees (NHCEs) to participate in the 401(k) plan and maximize their contributions. Some employers implement "safe harbor" 401(k) plans to bypass ADP and ACP testing.
How to make after-tax contributions to my 401(k) as an HCE?
First, ensure your 401(k) plan document allows for after-tax contributions. If it does, you can contribute up to the overall limit ($69,000 or $76,500) minus your pre-tax/Roth deferrals and employer contributions.
How to perform a "Mega Backdoor Roth" conversion as an HCE?
If your plan allows after-tax contributions and in-plan Roth conversions or rollovers to a Roth IRA, you can contribute after-tax money to your 401(k) and then immediately convert it to a Roth account, allowing future earnings to be tax-free.
How to consider Nonqualified Deferred Compensation (NQDC) plans as an HCE?
If your employer offers an NQDC plan, it allows you to defer additional income beyond 401(k) limits on a pre-tax basis. Discuss this option with your employer's HR or benefits department.
How to use a Health Savings Account (HSA) to supplement my retirement savings as an HCE?
If you have a high-deductible health plan (HDHP), open and contribute to an HSA. It offers triple tax benefits (tax-deductible contributions, tax-free growth, tax-free withdrawals for qualified medical expenses) and can be used for healthcare costs in retirement, freeing up other savings.
How to stay updated on 401(k) limits and HCE rules?
Regularly check the IRS website for updates on retirement plan contribution limits (usually announced in late fall for the following year) and consult with your plan administrator or a financial advisor.
