Tune your retirement savings: New limits in 2008 juice up savings opportunities

NEW YORK -- Now that the holidays are behind us, it's time to think about making some financial adjustments for 2008.

There's the usual -- pay holiday bills, reduce debt, review your budget, take stock of where you are financially. But this year we get important changes to contribution limits for individual and small-business retirement plans. These changes can add power to your retirement savings.

Now's a good time to take 15 minutes (at least!) to review your retirement savings, and to see how these changes can boost your nest egg.

New contribution limits

Most importantly, Congress raised the annual limits on traditional and Roth IRA contributions from $4,000 to $5,000 - a 25% increase and a substantial hike from $2,000 in 2001. And if you're over 50, you get to add another $1,000.

Here's a summary:

• IRA limits. Annual contribution limits rise to $5,000 with increases up to $500 per year from 2009 forward depending on inflation, for both traditional (deductible) and Roth IRAs.
• Catch-up limits. The existing catch-up provision allows an extra $1,000, to both traditional and Roth IRAs, for each participant over 50. So a husband and wife who are both over 50 can now contribute $12,000 per year.
• SEPs, Pensions, ESOPs. Subject to income limits addressed below; most income-earning Americans can use IRAs. Additionally, self-employed or small-business owners can use various pension arrangements, and most limits on these rose as well.

New income limits

With IRAs you must check the income limits, which also rose this year. For instance, those with a qualified employer plan can only deduct traditional IRA contributions if their income falls below a certain threshold.

• Traditional IRAs are now fully deductible for married-filing-jointly taxpayers whose adjusted gross income (AGI) levels are below $85,000, up from $83,000 last year. The partial deduction threshold rises from $103,000 to $105,000.
• Full Roth IRA contributions can now be made for married-filing-jointly taxpayers with AGI up to $159,000, up from $156,000, phasing out to $169,000, up from $166,000.

Surprisingly, it wasn't so easy to find a summary of these changes, though you can find the information if you dig around on the IRS Web site. See this round-up of IRA information on IRS Web site.

The IRS did publish a good summary of the new pension and small-business saving plan limits in October. See the summary on the IRS Web site.

What about my 401(k)?

Now you might wonder about your salary-deferral plans, such as 401(k)s, 403(b)s and the like. Did they up the 2008 limits for these plans, too? The bad news is no. The good news is that the limits were increased in each of the last four years. For example, in 2004 the 401(k) limit was $13,000 with a $3,000 "catch-up" provision; for 2007 and 2008 the limit is $15,500 with a $5,000 catch-up.

You should "tune" now, if possible, to take full advantage.

And don't forget....

Spousal IRAs. This oft-forgotten opportunity helps those couples with one fully-employed spouse. If this spouse earns beyond the contribution limits for traditional or even Roth plans, the second "inactive" spouse can still make a fully deductible or Roth IRA contribution. Income limits (and a 2008 increase) are similar to Roth limits.

Making dollars and sense of the opportunity

You're 50 and you expect to work and contribute for 15 more years. The increased limits allow you to contribute another $1,000 annually, and the catch-up contribution allows another $1,000 -- $6,000 total. Now, if you get a modest 6% return on your IRA, you'll have saved $139,655 by age 65, compared to $93,103 with a $4,000 annual contribution - an increase of $46,522.

Now that might not seem like a lot, but if you "annuitize" or convert that lump sum difference into a monthly payment for 20 years continuing a 6% return, that's $337 per month more in retirement. A comparable contribution from a spouse will double that. Of course, a higher rate of return brings more.

Whether that income is taxable depends on whether you use the traditional or the Roth choice, and what you tax situation is when you begin the withdrawals.
One can't ignore the power of time in compounding. If you're fortunate enough to have 30 years to save, that extra $1,000 per month brings a lot more -- $79,000 more at 6% or $133,000 more at 8%. Combine that with the catch-up "bonus" after you turn 50, and the benefits get still bigger.

Not to mention additional current tax deductions if you go the "traditional" route.

The math is more complex than can be fully covered here. The bottom line: you should take 15 minutes to measure the opportunity - and seize it if you can.