What is a 401(k) plan? A 401(k) plan is a type of company retirement plan under section 401(k) of the Internal Revenue Code. It allows you to save for retirement by putting away money on a pre-tax basis, thereby lowering your taxable income.
Employee contributions. Contributions refer to money put into a 401(k) plan and are also called “deferrals”. You can elect to have up to $17,0001 deferred from your paycheck and contributed to the plan. If you are age 50 or older, you can have an extra $5,500 deferred for a total of $22,500 for 2012.
Employer contributions. A 401(k) plan does not require an employer to contribute on the employee’s behalf, but an employer can choose to do so. One of the ways that a business can do this is by making a pre-tax employer contribution. Employer contributions can be either money put aside on behalf of all employees, or it can be a match of the employee contributions to the 401(k) plan so only those employees participating will get this additional benefit.
Total contribution limits. The total annual benefit a person can have added to the plan (including employee and employer contributions) is $50,000 (or if age 50 or older, $54,500). Therefore, if you deferred the full $17,000, the maximum employer contribution you could receive is $32,500 for a total annual contribution of $50,000 to your retirement plan.
1 The amount of taxes saved depends on your federal and state personal income tax rates. 2012 contribution limit for tax-deferred funds into a 401(k) plan is $17,000 ($22,500 for those age 50 or older). Savings calculation assumes you are in the 28% tax bracket.
