High income earners: Is the contribution cap holding you back?

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If your annual earnings are $87,000 or more, your required contributions are “capped” at $3,000 and the same amount again for your employer. That’s because as participants in Silver Thatch Pensions, you and your employer are required to make equal pension contributions totalling 10% of your earnings (5% each), up to maximum earnings of $87,000 per calendar year. While this contribution cap may leave more income in your hands today, in the longer term it could leave you with a retirement savings shortfall if you expect to maintain your lifestyle in retirement.

To show how this contribution cap can hurt higher income earners over the long run, we’ve put together a sample estimate of a plan member’s career-long Silver Thatch savings. Keep in mind this is a rough estimate based on specific assumptions. The retirement income you receive will depend on your own personal circumstances, which may be quite different from the example below.

Savings growth

Meet plan member Icelynn. She begins her Silver Thatch contributions at age 30, starting with employment earnings of $87,000 in her first year. Throughout her career, Icelynn makes basic pension contributions of 5% and her employer makes a matching contribution. How much will she save over the course of her career? More importantly, will it be enough?

Using the Retirement Calculator, we plugged in Icelynn’s numbers and made some basic assumptions. Erring on the conservative side – so we don’t overestimate her retirement savings – let’s assume the following:

  • Icelynn will retire at age 65.
  • Her employment earnings will increase annually by an average of 3% (including annual merit increases and promotions). This means after 30 years on the job, Icelynn’s annual earnings at retirement will have grown to about $145,000.
  • Because her annual earnings are at or above the maximum level of $87,000, Icelynn’s contributions are capped at $3,000 each year and will not increase. Her employer’s annual contributions would also be capped at $3,000.
  • Between now and retirement, her savings will earn an average annual return of 6%.

Based on these assumptions, Icelynn’s Silver Thatch Pensions account will be worth about $502,810 when she retires at age 65. Using a conservative rule of thumb, she’ll need to replace at least 50% of her income in retirement, or about $72,500 per year (while this may seem like a healthy income in today’s dollars, keep in mind that the spending power of a dollar will be greatly reduced 30 years in the future). To generate that much income, she’ll need $1,062,465 in savings. That means Icelynn will have a savings shortfall of about $559,655.

Savings shortfall

To avoid the prospect of retiring into a much reduced lifestyle, Icelynn has a couple of options. She can choose to delay her retirement date and shorten the length of her retirement. Or she could increase her contributions beyond the $3,000 cap by making Additional Voluntary Contributions (AVCs) and building a bigger nest egg over time. That said, Icelynn would need to make AVCs of about $6,678 starting in her first year. Alternatively, she could start with a lower AVC in her first year, and increase the amount of her AVCs in step with the growth of her employment earnings.

Retirement calculator

Simply fill in some basic information – like your age, current pension savings balance, annual contributions – and the calculator will estimate what your savings and income will be at the time of your retirement. It will also help determine if you’re saving enough to reach your retirement income goal and, if not, tell you how much you need to save to make up the difference.