401(k) Basics This section will help you understand 401(k) plans and help you make the most of your plan at work. What Is a 401(k) Plan? What Are the Benefits? Why Should I Participate in My Plan at Work? How Can I Participate? What Is a 401(k) Plan? A 401(k) plan is a retirement savings plan funded by employee contributions and (often) matching contributions from your employer. The plan is called 401(k) because this is the section of the IRS Code that generally describes the program. A 401(k) is a 'defined contribution' plan, which means the amount of retirement benefits you receive from the plan will be based on the value of your account at the time of withdrawal. This plan is different from 'defined benefit' pension plans where the employer makes contributions and provides benefits based on a formula. The majority of 401(k) are participant directed, which gives you more control by generally letting you make your own contributions, investment elections, and contribution amount. What Are the Benefits? As a plan participant, the 401(k) plan offers you a wide variety of benefits. For example: Any earnings on your contributions grow tax-deferred.* Any earnings on your 401(k) dollars are not subject to taxation until withdrawn from the plan. So instead of paying taxes on earnings each year, more of your assets can stay in your account to keep growing. Over time, this tax-deferred feature can have a powerful effect. The chart below illustrates how $1,000 in a tax-deferred account, such as a 401(k), can grow much more than a taxable investment. * Taxes are due upon withdrawal. Withdrawals prior to age 59 1/2 may be subject to a 10% IRS penalty. Your contributions may reduce your current tax liability. Typically, your contributions are made pretax, meaning they are not subject to current federal and state taxes until they are withdrawn*. These pretax contributions also reduce your adjusted gross income (AGI), which means the government will tax less of your income. You typically control how your 401(k) contributions are invested. Employers typically provide a range of investment options from which you can choose. 401(k) plans enable you to take advantage of dollar-cost averaging,** long considered an excellent way to accumulate wealth over time. Assets in 401(k) plans are portable, meaning you can transfer your money that you accumulate after changing jobs to another retirement plan or roll into an IRA. 401(k) plans provide 'free money' if your employer makes so-called 'matching contributions' and you meet vesting requirements. Contributions are usually made automatically from the your paycheck, so it makes saving for retirement fast and easy. You may qualify for a special tax credit in 2002 through 2006. This nonrefundable tax credit is for low- and moderate-income individuals. Ask your employer and your tax advisor for more details. * Most annuities have a tax-deferred feature. So do many retirement plans under the Internal Revenue Code. As a result, when you use an annuity to fund a retirement plan that is tax-deferred, an annuity will not provide any necessary or additional tax-deferral for that retirement plan. But annuities do have features other than tax-deferral that may help you reach your retirement goals. You should consult your tax advisor prior to making a purchase for an explanation of the tax implications. ** Such a plan does not assure a profit or protect against losses in a declining market. *** Some retirement plans may not accept such transfers. Why Should I Participate in My Plan at Work? One of the most pressing concerns among Americans today is ensuring they will have a comfortable retirement. May retirement experts claim you’ll need about 70 to 80% of the money you earn today to maintain your current lifestyle during your leisure years. Social Security alone can't do the job. What's more, with life expectancies increasing, you have to make sure you set aside enough money so you don't outlive your assets. 401(k) plans, along with your personal savings, give you the opportunity to close the gap between what Social Security and other employer retirement plans provide and what you will need to help ensure a comfortable retirement. How Can I Participate? If your employer offers a 401(k) plan, contact your benefits department and ask about enrolling in your plan. Plans have different eligibility criteria, which often includes tenure with the company. If you are eligible, you will need to determine how much you will contribute. With most plans, you can make contributions automatically through pretax payroll deductions. Typically, your employer will offer you several investments from which you can choose. Some plans even offer after-tax contributions. Contributions that you make to a 401(k) plan and all earnings attributable to your contributions are fully invested at all times. Employer matching contributions and earnings attributable to those contributors will vest according to your 401(k) plan's vesting schedule, which often requires that you be employed by the company for a certain period of time. Quelle "401(k) Basics" : General Main page for "401(k) Basics"