Category Archives: 401(k)s

401(k) Plans

IRS Site: 401(k) Plans

These employer sponsored plans account for the majority of people’s retirement planning.  Most people approach this by deferring a percentage of their salary each paycheck into an account they can barely decipher.  Typically, an employer offers to match, up to a certain percentage amount, the employee’s salary deferrals.  For instance, XYZ Corp. can offer to match their employee’s contribution up to a maximum of 3%. The employer’s contribution usually vests over a set period of time in order to incentivize employee retention.

401(k) Plan Contribution Limits

  • $18,000 in 2015 and 2016
  • 50 years and older, there is an additional catch up contribution of $6,000

Anyone older the age has the ability to put up to $24,000 into tax-free investment accounts through their 401(k).  The contribution amount is deducted against Gross Income which reduces the tax burden for that year.

Scenario #1

  • Salary: $100,000.00
  • Employee’s Elective Deferral %: 3%
  • Employer’s Matching % (3% max): 3%
  • Employee Deferral $: $3,000.00
  • Employer’s Matching $: $3,000.00
  • 401(k) Total Contribution: $6,000.00
  • Adjusted Income: $97,000.00

Scenario #2

  • Salary: $100,000.00
  • Employee’s Elective Deferral %: 18%
  • Employee’s 50 yrs.+ Deferral %: 6%
  • Employer’s Matching % (3% max): 3%
  • Employee Deferral $: $18,000.00
  • Employee’s 50 yrs.+ Deferral $: $6,000.00
  • Employer’s Matching $: $3,000.00
  • 401(k) Total Contribution: $27,000.00
  • Adjusted Income: $76,000.00

Think of the employer’s contribution as additional return on the portfolio.  Like with the tax reduction discussed here, the retirement account benefits from the “free” return provided by your employer.  In this case, an additional 3% of salary is deferred or $3,000.  Based on the $24,000 retirement contribution, the $3,000 return from the employer contribution translates to a return of 12.5%.

After maxing out the annual contribution to your 401(k) Plan, there are still some additional options to consider for tax-advantaged accounts. Enter IRAs.

 

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