IRS has devised several features and variations of the 401(k) plan for the past years. Today, the plan is helping millions of employees save for retirement. What exactly is 401(k) plan and how does it work?
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The 401(k) plan allows employees to designate a percentage to be deducted from their wages and placed into an individual account before taxes on their income are withheld. The contributions to a 401(k) plan are not taxable until they are withdrawn from the account during retirement years.
However, the Roth 401(k) plan allows employees to pay tax immediately on their contributions so that they do not have to pay the tax anymore when they withdraw the money in retirement. It all depends on the type of 401(k) plan that the employees choose. Since this is an employer sponsored retirement plan, the employer sets it up for the employees.
Since this plan is a defined-contribution type of plan, most companies match a designated percentage of their employees’ 401(k) contributions. The match is usually around 25-100 percent of the employees’ contributions. In most cases, the employer increases the match percentage based on the employee’s working years in the company.
IRS has designated a maximum amount that an employee can contribute to the plan. The limit was $17,500 in 2014 and for joint employee & employer contributions, the limit was set at $51,500 in 2013. The Economic Growth and Tax Reconciliation Act of 2001 provided employees over 50 to make catch-up contributions of up to $5,500 to give them a chance to save more for retirement.
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This is just a brief overview of the 401(k) retirement plan. Further information can be found here.
Aaron Novinger is a low-risk retirement consultant and investor from Arlington, TX. He has also written useful financial materials such as “The Estate Black Book” and “Client Profile Assessment.” Visit this website for more information about his career and accomplishments.