401k Retirement Plans for Free Money

One of the many benefits of 401k retirement plans is the FREE MONEY (called "the match") available from most employers to employees who participate in their plans.

401k retirement savings plans are offered by many employers, sometimes instead of traditional pension plans. The employer typically hires a financial services company to manage the plan and the employee contributions and withdrawals.

Employees are offered the option to participate and can contribute from their earnings before taxes are calculated.

The Federal government sets limits on the amount employees can defer to their 401k plan.

In 2012, the maximum contribution allowed is $17,000. Workers 50 and over are allowed to contribute an additional $5500. Source: IRS website

401k retirement plans offered by employers are governed by Internal Revenue Service rules.

How to Get Free Money from your employer

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401k free money for retirement

Employers can also contribute funds on behalf of employees since they may no longer provide funds to pension plans.

This contribution usually comes in the form of a matching contribution up to a certain level.

For example, an employer may offer to match dollar for dollar what the employee saves, up to 6 percent of the employee’s salary. The match amount can be lower, and may be reduced in tough economic times.

Example of Employer Match

Married person, paid monthly
Salary $400 per week, $1600 per month before taxes and other deductions

  • Defer 6% of paycheck to 401k, $96
  • Employer match is 100% (or one dollar for each dollar you contribute) up to 6%, which is another $96.*
  • Total 401k contribution this month is $192. (*pending vesting period for employer portion)

Besides the employer match, there is another benefit to contributing to your 401k plan. The money saved in the 401k plans is not taxed (yet), and also reduces the amount of taxes the employee pays in total. During retirement, taxes are likely to be lower than they were while employed.

Comparing taxes due before and after enrolling
in 401k retirement plans

(Note:This fictional example only shows federal income taxes and does not include
social security or state income taxes for sake of simplicity.)

Not enrolled in 401k plan:

Federal income tax was $92.50 out of $1600.
Net Take Home Pay after taking out federal tax is $1507.50

Enrolled in 401k plan:

Contribute 6% to 401k, $96
$1600 - $96 = $1504 taxable amount
After 401k contribution, Federal income tax due $82.90
Net Take Home Pay after 401k deduction and Federal tax withholding is $1421.10

The difference in take home pay is only $86.40 instead of $96.

The combined 401k contribution of $192 ($96 from employee and $96 from employer) only cost $86.40 from the employee’s paycheck. That’s $105 in free money.

This results in over $2000 saved for retirement at a "cost" of $1036.80 for the year. At the end of the year, the 401k account balance could be even higher depending on performance of the investment portfolio.

Unexpected Events

In the event your family experiences unexpected challenges, it may be appropriate to take hardship withdrawals from your 401k.

At Retirement Time

  • Withdrawals from a 401k can be taken after age 59 1/2.
  • If you quit working in the year you reach age 55, you can take 401k withdrawals for early retirement.
  • At retirement time, you can rollover from your employer 401k plans to an IRA to get more investment choices and control. Keep in mind that IRA withdrawals are not available without penalty before age 59 1/2, so you may want to wait until age 59 1/2 if you retire before that time and need income from your 401k savings.
  • At age 70 1/2, the IRS requires minimum distributions from all retirement savings accounts (401k plans, IRA, etc)

There is more information on 401k early retirement as well as 401k tips on other pages. You may also want to see How to Save for Retirement.

Additional information for 401k savers

  • Make it a rule to never take early withdrawals from your retirement savings plans, except for early retirement. Read cashing in a 401k to find out more on this topic.
  • New employees have a waiting period before being eligible to enroll in 401k plans.
  • The employer's portion of contributions are usually subject to a vesting schedule. This means if the employee leaves the job before becoming fully vested (usually 3 years), the employer's portion reverts back to the employer. After meeting the vesting requirement, all past and future contributions are owned by the employee.
  • The match details are specific to rules of the plan and vary from employer to employer.

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