Unlocking Life Basics: Understanding 401(k) retirement plan basics

A 401(k) is an employee-sponsored retirement plan offering tax advantages. You contribute a chosen percentage of your income, which is then automatically withheld from each paycheck by your employer and deposited into the account. This money can be invested, potentially growing tax-free over time, making it simple to contribute consistently.

A traditional 401(k) allows pre-tax contributions, lowering your current taxable income. However, when you make withdrawals in retirement, that money is then subject to ordinary income tax.

Those looking for another option may consider a Roth 401(k), which is funded with after-tax dollars, meaning no immediate tax deduction from your paycheck. The benefit lies in potentially tax-free growth and tax-free withdrawals in retirement.

A 401(k) plan offers a variety of investment options tailored to your risk tolerance and retirement timeline. These typically include mutual funds, exchange-traded funds (ETFs), target-date funds, index funds, money market funds, and individual stocks and bonds. You may also have the flexibility to manage your own investments or opt for professional account management.

Charles Schwab

describes vesting as “a term that describes how much of the money in your account is actually yours if you were to leave the company or take a distribution.”

Many employers offer to contribute to their employees’ retirement accounts through a matching program. The specific terms of this matching contribution will vary depending on your employer’s plan, but generally, the amount an employer contributes is based on how much you personally put into your retirement account.

Your contributions to a 401(k) are immediately vested, meaning they are always yours. Employer contributions, such as matching funds, typically require you to remain with the company for a specific period before they are fully vested and considered yours. For the specific vesting requirements of your 401(k) plan, consult your plan administrator.

The IRS sets annual contribution limits for 401(k) plans, adjusting them based on inflation. Your maximum contribution depends on these limits.

How much you should contribute to your 401(k) plan completely depends on your personal retirement goals — and how much you hope to accumulate.

Every situation varies, but

Charles Schwab

recommends saving 10%-15% of your salary if you start in your 20s, including employee match, per year. If you start in your 30s, it’s recommended to save 15%-20% of your salary, including employee match, per year. And if you start in your 40s, it is recommended to save 25%-35% of your salary, including employer match, per year.

While 401(k) retirement plans are common, they can be very confusing to understand, especially as a young adult. It is important to do proper research on this retirement plan and to ask questions when needed. Your employer should be willing to help you navigate your retirement plans.

Adria Peters began her position with Forum Communications Company as Audience Engagement Specialist in June 2024. Readers can reach Adria by email at adria.peters@forumcomm.com.