How Statutory Limits Affect Contribution Rates

December 20, 2005 ( - New research released from the Center for Retirement Research at Boston College found that most increases in contribution limits do little to increase the retirement preparedness of most workers.

Report authors Janette Kawachi, Karen Smith, and Eric Toder note that participation rates and contribution rates in 401(k) plans have generally increased in the years between 1990 and 2003. They note also that previous studies have shown that the amount a person contributes to his or her 401(k) is often dictated by plan limits on contributions. Citing a previous study by Choi et al (2004) the report says, “Participants exhibit a strong tendency to contribute at plan-specific limits such as the default rate, the match threshold, and the maximum contribution limit,” and that “these plan limits are the most important features of plan designs affecting participant contributions.”

In their report, “Making the Maximum Use of Tax-Deferred Retirement Accounts”, the authors set out to determine the affect government imposed statutory limits on contributions have on participant contribution rates. They found that the probability of contributing the maximum amount allowed by law increases among high-income compared with low-income workers, college graduates compared with those with less education, non-Hispanic whites and others compared with non-Hispanic blacks and Hispanics, and single and married people, compared with those who are widowed or divorced. A larger percentage of men than women contribute the maximum, but within comparable earnings groups, women are more likely to contribute the maximum than men.

Plan Limits

The authors note that it could be that some participants are prevented from contributing the maximum amount allowed by the limits imposed by the plan to help pass anti-discrimination rules. They also concede that some workers choose to defer saving due to spending needs earlier in life, such as buying a home or paying college tuition, and hardships that may occur, such as divorce.

The statutory employee contribution limit increased from $7,979 in 1990 to $12,000 plus a $2,000 catch-up contribution in 2003, and the combined employee/employer contribution limit increased from $30,000 or 25% of salary in 1990 to $40,000 or 100% of salary in 2003. The percentage of participants who contributed the maximum to employer-sponsored plans increased from 3.5% in 1990 to 7.5% in 2001, but then declined to 6% in 2003, largely because many older workers do not take advantage of the catch-up provisions, the authors found. Excluding the catch-up provisions, the authors note that the percentage of participants who contributed the maximum remained relatively constant between 2001 and 2003.

Between 1990 and 2003, the percentage of workers contributing the maximum remained about the same for workers earning under $75,000, but increased from 23% to 38% for workers earning between $130,000 and $150,000. The percentage of college graduates contributing the maximum amount more than doubled, while the percentages of maximum contributors at other education levels remained mostly unchanged.

College Grads

In 2001, around 15% of college graduates were contributing the maximum amount to their 401(k) plan, up from 6% in 1990, while less than 3% of each group of other educational attainment levels were contributing the maximum. Though the percentage of college graduates contributing the maximum dropped to around 12% in 2002, it was still well ahead of the percentage of those with other educational attainment levels.

In 1990, the percentage of non-Hispanic whites and Hispanics contributing the maximum amount to their 401(k)’s was around 4% for each group. The percentage of non-Hispanic whites who were maximum contributors reached a peak of 8% in 2001, while around 3% each of Hispanics and non-Hispanic blacks were maximum contributors.

In 1990, 4.1% of males and 2.8% of females were maximum contributors, according to the report. By 2003, the share of males who were maximum contributors had almost doubled to 8%, while the female share of maximum contributors increased by a smaller proportion to 3.6%. The authors attribute the higher propensity to contribute the maximum for males to the higher earnings of males.

The percentage of married participants who contribute the maximum increased from 4% in 1990 to 9% in 2001, before dropping to 7% in 2003. The percentage contributing the maximum also increased for the never-married (from under 2% in 1990 to almost 4% in 2003), but there was almost no increase in the percent contributing the maximum for either widowed or divorced people.

The share of participants who are large contributors, defined as those who contribute at least 10% of earnings or the maximum amount, increased from 13.6% in 1990 to 21.6% in 2001.

The authors also found that the number of both maximum and large contributors is increasing more over time for higher- than for lower-earning groups. They concluded that increases in the maximum dollar amount can be expected to reduce the percentage of maximum contributors, but raises the relative number among high-earning and education groups.

The study shows that the growth in the groups that contribute the maximum statutory amount and high contributors is a function of earnings and demographic characteristics, and increases in statutory contribution limits do little to increase retirement preparedness among lower-income groups.

The full report can be read here .