What Are 401k Plans?

Answer 1

Many people plan for their retirement. One way to do so is with a 401k plan. What sets a 401k plan apart from other retirement plans is how it is designed and sponsored. Most 401k plans are sponsored by a company a person may work for. However, other types of organizations such as universities or non-profits may also offer 401k plans to their employees.

401k plans that are offered to employees differ from similar plans that may be set up by others. The key difference is that employee 401k plans implement something known as salary deferral. With such a system, a certain portion of an employee's paycheck would be deposited into the plan. While that money is in the plan, it won't be taxed. The only time it will be taxed is when it is taken out of the plan at a later date.

This can have certain large benefits. When the money is placed into the plan, it is not taxed. It is taxed when it is taken out. However, due to how the plan works, it is likely to be taxed at a lower rate. This is because when a person is retired it is likely that retiree will be in a much lower tax bracket than when that parson was working. The savings in taxes can be quite significant.

401k plans also have the ability to provide a retiree with matching contributions. These contributions into the 401k plan are made by an employer each time differed income is placed into the plan. This matching contribution may match the employee's contribution completely.

However, often, it is only a partial matching contribution. The contribution is often calculated with specific formulas. Sometimes, it is a simple percentage such as 50 percent. Other times, it may be a percentage of the first 10 percent of salary deferred. Whatever the case, over time, these contributions can certainly add up to become a major part of the 401k's total funds.

There may be certain restrictions on a company's 401k plans. For example, often, a person will have to have worked for a company for a number of years to become eligible for obtaining such a plan.