People always ask us, “What do I need to know before signing up for a 401(k)?”
Let’s cover some of the basic questions to ask your employer before signing up for the company 401(k) plan.
What accounts are offered, and how do they differ?
In a traditional 401(k), contributions come out of your paycheck before taxes, lowering your taxable income. Because contributions are made before taxes are subtracted, you will have to pay taxes when you withdraw from the account.
In a Roth 401(k), contributions are made after taxes have been deducted. Roth 401(k) plans don’t cut your taxable income, but you won’t have to pay taxes on the money you withdraw when you retire.
Having money in both Traditional and Roth accounts might provide greater control over one’s retirement tax burden.
When am I eligible to enroll in the company 401(k) plan?
Your eligibility to participate in the company 401(k) plan depends on how the retirement plan was set up.
In some cases, employees are immediately eligible as soon as they are hired by the company. Some employers may choose to allow for a waiting period to expire before offering the 401(k) — This can range anywhere from a couple of months to over a year.
It’s good to know when you are eligible, so you can begin participating as soon as possible. It’s also important to note that some employers elect to automatically enroll their workers, in this case, it will be set up for you automatically.
Does the company match my contribution? How much is the match?
Often considered one of the most important questions to ask before signing up for a 401(k) plan, an employer match contribution is sometimes referred to as “free money.”
If offered, company matching is one of the best ways to maximize a 401(k), but it shouldn’t stop you from participating in the retirement plan if not offered.
It’s important to know the employer match percentage offered by your company to maximize your savings and not leave any money on the table. Let’s look at an example below.
Assume that your company matches 100% of all of your contributions each year, up to a maximum of 3% of your yearly salary. If you make $50,000 per year, your company will contribute a maximum of $1,500 per year. You must additionally contribute $1,500 to maximize this reward. Any additional contributions are unmatched if you contribute more than 3% of your earnings.
How much can I contribute?
The federal government sets limits on how much of your salary/wage can be put toward a retirement plan. These maximum annual contributions are available on IRS.gov, and those amounts may change each year.
Do I get matched contributions immediately?
It depends. Every company is different; some immediately vest employer contributions, while others may choose to set up a vesting schedule for matched contributions. What is “vesting”? Great question.
Any funds YOU contribute are always yours to keep. However, some employers require employees to work for some time before these matching contributions become 100% yours.
When you have to wait for employer contributions to be yours, you are on a vesting schedule.
For example, after the first year of employment, 20% of one’s employer contributions may be vested, 40% the following year, and so on until fully vested.
Asking your employer these 5 questions will help get you started when signing up for a 401(k). If you have any additional questions, don’t hesitate to reach out to us here!