In the past generation, retirement has changed dramatically.

The 20th-century retirement model allowed many Americans to let others plan and pay for their retirement. Employers paid out pensions for as long as ex-employees lived. Social Security benefits covered a significant percentage of most retirees’ expenses. Workers saved a little money to make their retirement more comfortable, but they largely relied on others to cover the bulk of their retirement income.

Times have changed. Between 1986 and 2016, 73% of U.S. pensions disappeared. Of the minority of companies that still offer them, nearly two-thirds are exploring ways to get rid of pensions within the next five years.

Nor can you expect Social Security to pick up much slack for you. Facing potential insolvency in 2035, the Social Security Administration has quietly been reducing real benefits for the last two decades. A report by the Senior Citizens League found that the purchasing power of Social Security benefits shrank by 33% since 2000.

Americans increasingly find themselves on their own to plan for retirement. This means saving and investing more money, often in tax-sheltered retirement accounts. Many Americans, however, haven’t changed their savings rates to keep pace with the times. One-third of baby boomers who are nearing or already in retirement have less than $25,000 saved for retirement, according to a Northwest Mutual report.

So roll up your sleeves, because it’s time to start saving more for retirement. The good news is that you can save money on taxes while you do so — if you know your accounts’ contribution limits.

Contribution Limits for Tax Year 2021

For both employer-sponsored retirement accounts and individual retirement accounts (IRAs), you have two options: traditional or Roth.

Traditional retirement accounts allow you to contribute pretax dollars. You don’t pay taxes on income you contribute now, but you do pay taxes on withdrawals later on.

Roth accounts work in the opposite way. You pay taxes today on contributions (in other words, you contribute post-tax income), but the money grows tax-free, and you don’t pay any taxes on withdrawals in retirement.

Regardless of whether you contribute to traditional or Roth options for any given retirement account, the same annual contribution limits apply. For example, you can max out your traditional IRA with 100% traditional contributions, contribute just to a Roth IRA, or contribute some money to each account type, as long as the total combined contribution remains under the limit.

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Traditional & Roth IRAs

Contribution Limit at a Glance: $6,000 for taxpayers under 50; $7,000 for 50+

The contribution limit for IRAs held steady from 2020 to 2021. Workers under age 50 can contribute $6,000 in tax year 2021. Those age 50 and over can contribute an extra $1,000 as a “catch-up contribution,” for a total annual contribution limit of $7,000.

As outlined above, you can contribute money to both account types — the total combined contributions must simply remain under the limit.

Nonworking spouses can still contribute to IRAs as long as their spouse worked.

Two complications apply, however. The first involves income limits: The IRS restricts contributions for workers earning higher incomes. Making matters even more complicated, the income limits are different for traditional versus Roth IRAs.

For traditional IRAs, single filers can contribute and deduct the full amount if they earn up to $66,000 modified adjusted gross income (MAGI) in tax year 2021. The contribution limit phases out for single filers earning between $66,000 and $76,000. Those with a MAGI over that amount can contribute to a traditional IRA but can’t deduct it from their taxable income.

The ability for married couples filing jointly to deduct contributions starts phasing out at $105,000, and phases out entirely at $125,000. Note that these income limits only apply to workers with an employer-sponsored retirement account — those without one can contribute and deduct it no matter their income.

Roth IRAs come with higher income limits on contributions. Single filers can contribute the full amount up to a MAGI of $125,000 in 2020, after which the contribution limit phases down. Above a MAGI of $140,000, single filers cannot contribute at all. Married filers can contribute fully up to a MAGI of $198,000, then the contribution limit phases down until a MAGI of $208,000, after which they can’t contribute.

The second complication deals with age. In tax year 2019, you couldn’t contribute to traditional IRAs after age 70½ (you could still contribute to Roth IRAs). From 2020 onward, you can contribute to both types regardless of age due to the SECURE Act.

SEP IRAs

Contribution Limit at a Glance: $58,000 ($57,000 for 2020) or 25% of net taxable earnings

Self-employed workers and small-business owners have another option for IRAs: the SEP IRA, which stands for Simplified Employee Pension Individual Retirement Account.

The contribution limits for SEP IRAs are significantly higher than those for traditional and Roth IRAs. You can contribute the lesser of:

• 25% of net taxable earnings
• $58,000 in 2021 ($57,000 for tax year 2020)

SEP IRAs do not include higher catch-up contribution limits for taxpayers over 50.

Although SEP IRAs don’t offer a Roth option, you can theoretically contribute to both a SEP IRA and a Roth IRA if you meet the eligibility criteria for each. To qualify for setting up and contributing to a SEP IRA, you must:

• Be at least 21 years old
• Be a sole proprietor or business owner or earn self-employment income
• Have earned at least $600 from this source during the tax year
• Have been self-employed (or worked for a qualifying business) for three of the past five years

SEP IRAs offer far higher contribution limits than traditional IRAs for small-business owners and the self-employed, without the burdensome administrative requirements and costs of setting up a 401(k).

401(k)s & 403(b)s

Contribution Limit at a Glance: $19,500 for taxpayers under 50; $26,000 for taxpayers age 50+ (unchanged from 2020)

Both 401(k) and 403(b) accounts are employer-sponsored accounts, and they have the same contribution limits. Primarily nonprofits and hospitals use 403(b) accounts, while 401(k) accounts are common among for-profit companies.

Unlike IRAs, the contribution limits for 401(k) and 403(b) accounts rose from 2019 to 2020. Workers under age 50 can contribute up to $19,500 in 2021. Workers 50 and over can contribute an extra $6,500 in 2021 ($26,000 total).

Employers can contribute additional money on top of that, for a combined total of $58,000 ($64,500 for workers 50 and over).

As with IRAs, you can maintain both a traditional and a Roth 401(k) or 403(b). The contribution limits apply as a combined total.

Income limits sometimes apply, although not in the same way as IRAs. Instead, these limits depend on how your compensation compares to other employees at your company. The IRS classifies employees into two camps: highly-compensated employees (HCEs) and non-HCEs. Specifically, they define HCEs as workers who meet one of the two following criteria:

• Owned more than 5% of the interest in the business at any time during the year or the preceding year, regardless of how much compensation that person earned or received
• For the preceding year, received compensation from the business of more than $130,000 in 2020 and (if the employer so chooses) was in the top 20% of employees when ranked by compensation

If you qualify as an HCE, your 401(k) contribution limit gets complicated. Your company’s 401(k) must pass a nondiscrimination test, which prevents HCEs from saving too much more than non-HCEs. If your HR department tells you that you qualify as an HCE and can’t contribute the full amount to your 401(k), review the IRS rules on nondiscrimination tests with them to determine exactly what you can contribute.

SIMPLE IRAs

Contribution Limit at a Glance: $13,500 for taxpayers under 50; $16,500 for taxpayers age 50+ (unchanged from 2020)

Despite being a type of IRA, SIMPLE IRAs (short for Savings Incentive Match Plan for Employees) are employer-sponsored retirement plans designed as an alternative to 401(k) plans for small businesses. They offer fewer administrative headaches and costs to keep them practical for small business owners.

In tax year 2021, small-business owners and their employees can contribute up to $13,500 for workers under age 50, plus an extra $3,000 catch-up contribution for workers 50 and over.

You can contribute to both a SIMPLE IRA and a traditional or Roth IRA if you meet all requirements. There is no Roth option for SIMPLE IRAs.

Unlike 401(k)s, employers with SIMPLE IRAs must offer either a nonelective 2% contribution to employees’ accounts each year or an elective matching contribution of up to 3%. See the IRS rules for more details.

SIMPLE IRAs make a great entry-level employer-sponsored retirement account for small businesses. The self-employed tend to be better off with a SEP IRA.

HSAs

Contribution Limit at a Glance: $3,600 for single taxpayers under 55; $7,200 for taxpayers on a family insurance plan (up from $3,550 and $7,100 respectively in 2020); taxpayers age 55+ can contribute an extra $1,000

Although health savings accounts (HSAs) are not technically retirement accounts, many workers use them as such, given their incredible tax benefits and flexibility.

Health savings accounts function almost like health emergency funds for Americans with high-deductible health insurance. You need plenty of cash on hand for those high deductibles in the event of a medical emergency, so the government allows you to contribute money tax-free to an HSA each year.

Here’s the kicker: The money you contribute tax-free to an HSA also grows tax-free, and every dollar you withdraw is tax-free, creating triple tax protection. You get to deduct contributions from your taxable income, then avoid paying taxes on all withdrawals too.

It’s little wonder that many people maximize contributions to their HSA. After all, you know you’ll have plenty of health care expenses in retirement. HSAs let you cover all those costs completely tax-free.

The contribution limits for HSAs work slightly differently from those for IRAs and 401(k)s. The catch-up age starts at 55, not 50. And single taxpayers can only contribute half as much as those on a family insurance plan.

Can I Contribute to Both an IRA & an Employer-Sponsored Account?

The short answer: Yes, but subject to the income limits of each.

As outlined above, IRAs and Roth IRAs come with income limitations, and contribution limits phase out above certain incomes. Employer-sponsored accounts like 401(k)s come with their own income limitations.

You can contribute to both account types simultaneously as long as you fall under the income limitations of each type of account. You can even use one type of account to help you qualify for another. For example, contributing $18,000 to your 401(k) might drop your adjusted gross income low enough to qualify you to also contribute to a Roth IRA.

How Much Should I Contribute Each Year?

How much you should contribute depends on your financial goals and how much money you plan to spend in retirement.

The old rule of thumb if you’re following a 4% withdrawal rate is to take your target annual income from your retirement accounts and multiply it by 25 to determine how much you need to save up as a nest egg. For example, if you plan on receiving $20,000 per year from Social Security, and you want another $40,000 per year from your retirement accounts, you would need to save $1,000,000 ($40,000 x 25).

How much you should contribute each year to meet your goal depends on when you start. If you start contributing 40 years before you plan to retire, you can contribute relatively little each year and still reach a high target, based on the power of compounding. But if you only have 10 years left before you plan to retire, you need to get extremely aggressive about savings and investing.

It’s a complex topic, and one you should ideally discuss with a financial advisor. In the meantime, read up on how much you should have saved for retirement at every age.

Pro tip: Have you considered hiring a financial advisor but don’t want to pay the high fees? Enter Vanguard Personal Advisor Services. When you sign up, you’ll work closely with an advisor to create a custom investment plan that can help you meet your financial goals. Learn more about Vanguard Personal Advisor Services.

Should I Invest in Traditional or Roth Accounts?

It doesn’t hurt to contribute to both, but some people see significantly greater benefits by investing in one account type over the other.

The decision to invest in traditional or Roth retirement accounts largely comes down to whether you expect to earn more now or in retirement and how long you have until you plan to retire. For a 22-year-old working an entry-level job, it nearly always makes sense to invest in a Roth IRA. The money has many decades to grow and compound tax-free, ultimately becoming worth many times more than the amount contributed.

And with relatively low incomes in their 20s, most taxpayers don’t see much benefit from deducting the contributions from their taxable income.

By contrast, people at the peak of their earning power often prefer to take an income tax deduction. If you expect to take less income in retirement than you earn now, traditional retirement contributions generally make more sense.

Bear in mind, though, that U.S. income tax rates currently sit lower than historical averages, and they could well rise in the years to come. One way to prevent your taxes from rising in retirement — just when many have the lowest ability to weather it — is simply to contribute to Roth accounts now. The less retirement income you lose to taxes, the less you need to save as a nest egg.

Why Are There Contribution Limits at All?

You may be wondering: Why does the IRS impose contribution limits at all? Lawmakers want to encourage both retirement saving and investment in the broader economy, right?

Yes, they do. But they want tax revenue more.

In the unlikely scenario that more Americans started funneling a large percentage of their earnings into retirement accounts, the IRS would lose millions (if not billions) in tax dollars. Granted, they would get the money eventually, but “eventually” doesn’t keep the government’s lights on today.

And let’s be honest: both the opportunity and the appeal for tax-sheltered investing tilt toward higher earners. Some would argue that the people most likely to benefit from higher contribution limits are precisely the people who least need those benefits. But politicians on both sides of the aisle prove just as eager to spend tax dollars, rather than allow Americans to save and invest more tax-free.

Hence the contribution limits.

Final Word

Lower earners who save a high percentage of their income may also qualify for an additional tax credit, the Retirement Savings Contribution Credit (better known as the “Saver’s Credit”). The credit knocks up to $2,000 off your tax bill, potentially nullifying it entirely.

Regardless of how much you earn, set aside as much as you can afford to build wealth and plan for the future. Tax-sheltered retirement accounts offer an excellent vehicle to do so, reducing your taxes while simultaneously creating wealth.

But they’re not your only option. Explore other, more flexible options as well, such as taxable brokerage accounts, real estate investments, and alternative investments for a well-rounded portfolio that balances tax advantages with more immediate access to your money.