High-Income Earners May Have Trouble Saving For Retirement: Your Guide to Overcoming Some Surprising Roadblocks

About the author: Lamar Watson, CFP®, is a Fee-Only Financial Advisor in the Washington, D.C. area that works with clients virtually across the country. Lamar's work with his clients focuses on budgeting, employee benefits, paying down debt, buying their first home, and investing. Lamar is the Founder of Dream Financial Planning, a virtual Fiduciary Financial Planning firm specifically designed to help young professionals and minorities take control of their finances and fulfill their dreams. Feel free to schedule a complimentary consultation to learn how we use the DREAM Financial Planning Process ™ to help our clients achieve their goals. 

You know preparing and saving early is key to reaching your retirement goals - but as someone who makes six figures or more, you may have encountered some roadblocks. High-income earners face several financial hurdles when it comes to preparing for retirement, as their income can actually limit them from utilizing certain tax-advantaged retirement savings strategies. If you make six figures or more, you know you need to plan now in order to maintain your lifestyle through retirement. Here are two things highly compensated executives and employees like you can do to save for retirement.

Why Are High-Income Earners at a Disadvantage?

The IRS offers several tax-advantaged retirement savings options. Most of these options, however, offer some sort of income cap - making it harder for high earners to take advantage of these tax-saving strategies. But high earners face the same challenge as moderate- to low-income earning employees: sustain a similar lifestyle in retirement by maintaining financial independence. When high earners are limited in their options for saving for retirement, it can make reaching their goals for retirement more challenging.

Retirement Saving Strategies

Once you’re able to identify the roadblocks you may be facing, focus your attention on the retirement-saving strategies that may work best for you and your family.

Strategy #1: Contribute to a 401(k)

If you aren’t doing so already, contributing to an employer-sponsored 401(k) plan is an effective place to start saving for retirement. You may defer up to $19,500 (or $26,000 if you’re 50 or older) of your pre-tax earnings toward your employer-sponsored 401(k) plan.¹ Many employers will offer matching contributions as well, up to a certain percentage of your contributions. The total contribution limit for a 401(k) plan in 2021 is $58,000 (plus an additional $6,500 for those 50 and older) or 100 percent of an employee’s compensation, whichever is lower.¹

The salary limit for deferring compensation is $280,000 for 2021. If you make more than this amount, this doesn’t mean you can’t contribute to your 401(k) plan. Employees can defer compensation to their 401(k) plan throughout the year until their year-to-date earnings reach $280,000. Once that maximum is reached, employees can no longer defer earnings toward their 401(k) plan.¹

As a high earner, your 401(k) will likely offer the highest contribution cap for tax-deferred retirement savings - making it an important cornerstone of your retirement saving strategy.

Strategy #2: Traditional IRA 

Roth IRAs allow retirees to make tax-free withdrawals in retirement, meaning they can be appealing for those saving for retirement. Unfortunately, it may not be an option for some high-earners. If your modified adjusted gross income is more than $140,000 as a single filer or $208,000 as a joint filer, you are not eligible to contribute after-tax dollars to a Roth IRA account. If you make between $125,000 and $140,000 as a single filer or $198,000 and $208,000 as a joint filer, you may be eligible to contribute a reduced amount.²

A traditional IRA, however, does not have an income limit, which makes it an available option for high earners. The only prerequisite is that you earn any income at all. It’s important to note, however, that you may be limited to how much of your IRA contribution you can deduct on your tax return.

How much you are able to deduct from your taxes will depend primarily on two things:³  

• Your modified adjusted gross income
• Whether or not you actively contribute to your employer-sponsored retirement plan (such as a 401(k))

Strategy #3: Backdoor Roth IRA

Building on the strategy above, those interested in tax-free withdrawals in retirement - but aren't eligible to utilize a Roth IRA - may benefit from a backdoor Roth IRA. As the name suggests, this strategy offers high-income earners a roundabout entrance into placing their after-tax dollars into a Roth IRA account.

To do this, you'll have to:

1. Open and contribute to a traditional IRA account.
2. Have an account administrator provide the paperwork and instructions for converting your traditional account into a Roth IRA.
3. Prepare to pay taxes on the money in the account and any gains it may have incurred.

If this sounds like an option you may be interested in pursuing, your financial advisor or CPA will be able to offer more guidance and instruction regarding this process.

If you’re earning six figures or more, it may be helpful to work with a financial advisor or retirement specialist who can help you understand your savings options. Depending on your age, goals for retirement, and current financial standings, together you may determine a more aggressive strategy, such as a taxable investment account, may be a viable option. Whatever strategy you choose, be sure to stay up-to-date on contribution limits and eligibility requirements. This can help you and your retirement savings avoid any surprise tax bills now or toward retirement.

Dream Financial Planning Process ™

Whether you're managing student loan debt, starting a family, or considering buying your first home, the DREAM Financial Planning Process™ is tailored to the unique needs of busy professionals in their 30s and 40s. This process focuses more on short-term goals while you grow and evolve in your personal and professional life. If you're looking for guidance on Financial Planning, optimizing employee benefits, budgeting, student loans, and managing your 401k or investments, we can help.

Complimentary Consultation

With uncertainty surrounding the economic stability of our country, it's okay to have fears and anxieties surrounding your own savings and investments. The most productive course of action from here is to reach out to Dream Financial Planning (or whoever your trusted advisor might be) and discuss your options. It's easy to have knee-jerk reactions when it feels like the bottom is falling out, but it is imperative to make decisions using research-backed data and a level head. If you'd like a Complimentary Review and risk assessment of your investment portfolio, feel free to send me an e-mail.

Monthly Newsletter

If you're looking to buy your first home, you'll want to read this month's Newsletter. In my February Newsletter, I discuss how student loans could affect your ability to buy a home with Megan Leonhardt of CNBC. There are also blog posts that discuss 7 Tax Deductions For The Self Employed and 4 Common Mistakes Made by First Time Homebuyers.

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