What is a 401(k)?

A 401(k) is a retirement savings plan sponsored by an employer. A 401(k) allows workers to invest a portion of their paycheck before taxes are taken out. Investment options include mutual funds composed of stocks, bonds, and money market investments. Target-date funds tend to be the most popular option. A target-date fund is a combination of stocks and bonds that gradually become more conservative as you reach retirement.

There are benefits for both the employee and the employer. If your employer doesn’t offer a 401k, you can still invest in an individual retirement account, which is commonly referred to as an IRA.

401k Employer Benefits:

  • Attract talented people in today’s challenging job market
  • Retain valuable employees who want retirement options in their benefits package
  • Enjoy tax advantages that may be available to you as an employer offering the plan

401k Employee Benefits:

  • Tax-deferred growth potential and pre-tax contributions
  • Employee pays taxes only for employer contributions
  • Taxes aren’t paid until the money is withdrawn from the account

Employee Cons:

  • Plan fees
  • Limited investment options
  • Early withdrawal penalty

How Much Can You Invest Into A 401k?
The maximum amount that an employee may voluntarily defer into the plan varies each year. In 2019 individuals can contribute up to $19,000 a year ($25,000 if age 50 or older)

What are the early withdrawal penalties?
Generally though, if you take a money out from your IRA or 401k before age 59 ½, you will likely owe both federal income tax (taxed at your marginal tax rate) and a 10% penalty on the amount that you withdraw, in addition to any relevant state income tax.

What happens to my 401k if I leave or quit my job?
If you leave your job, you can roll over 401(k) funds into an IRA

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