What is 401(k) matching and how does it work?

What is 401(k) matching and how does it work?

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Key takeaways

Matching 401(k) contributions are the additional contributions made by employers, on top of the contributions made by employees. These matches are made on a percentage basis, such as 25%, 50% or even 100% of the employee’s contribution amount, up to a limit of total employee compensation.

02.02.2024

401(k) plans are one of the most common investment vehicles that Americans use to save for retirement, and a common perk of these plans is that they sometimes come with an employer match. However, according to Empower research, 25% of workplace savers aren't contributing enough to maximize their employer match — meaning that they're leaving money on the table.

Below, we cover the types of matching, contribution limits, and other frequently asked questions.

What is 401(k) matching?

For most employees, a defined contribution plan is one of the primary benefits offered by their employer, with a 401(k) being the standard employer-sponsored retirement plan used by for-profit businesses. Employer matching of your 401(k) contributions means that your employer contributes a certain amount to your retirement savings plan based on the amount you contribute.

Similarly, some employers use 403(b) or 457(b) plans. While there are some minor differences between these plans, they are generally treated in a similar manner, and they usually have the same maximum contribution limits.

The type of plan is based on the type of entity:

403(b) plans are used by tax-exempt groups, such as schools or hospitals.

457(b) plans are for government workers, although there are some non-governmental organizations that also qualify to use these plans.

Whether you’re on your first job or are thinking about retirement, here are a few considerations to keep in mind when offered an employer match to your 401(k) contributions.

How much can you contribute?

You can contribute up to $23,000 in 2024, plus an additional $7,000 if you are age 50 or older. Note that employer matching contributions don’t count toward this limit, but there is a limit for employee and employer contributions combined: Either 100% of your salary or $69,000 ($76,500 if you’re over 50), whichever comes first.

When it comes to matching, specific terms of a 401(k) plan can vary widely. Your employer may use a very generous matching formula or choose not to match employee contributions at all. Additionally, not all employer contributions to an employee’s 401(k) plan are the result of matching. Employers may make regular contributions to employee plans regardless of employee contributions, though this is not particularly common.

Make sure you check your employer’s plan documents for the details on exactly how your 401(k) works.

Following are two common types of company contributions.

1. Partial matching

A partial match means that your employer will match part of the money you put into your 401(k), up to a certain amount. A common partial match provided by employers is 50% of what you contribute, up to 6% of your salary.

In practical terms, this means that if you earn $80,000 per year, your contributions that will be eligible for matching are 6% of your salary, or $4,800 in this case. But since your company only offers a 50% partial match, they will match half of the $4,800, or $2,400. To get the maximum amount of 401(k) match, you must put in 6%.

If you put in more, say 8%, your employer will still only match half of 6% of your salary, because that’s their max. The employer can determine the matching parameters.

2. Full matching (100% match)

With a dollar-for-dollar match, your employer will put in the same amount of money you do — up to a certain amount. An example of dollar-for-dollar is up to 4% of your salary. In this case, if you put in 4%, they put in 4%; if you put in 2%, they put in 2%. If you put in 6%, they still only put in 4%, because that’s their max.

401(k) vesting schedules

It’s important to understand the matching rules for your 401(k) plan, but it’s also important to understand the vesting schedule for employer contributions. Vesting refers to how much of employer contributions actually belong to you — it is based on how long you’ve worked at the company.

What this means is that you may forfeit your employer match if you leave or are terminated before a certain number of years pass. A typical vesting period for employer 401(k) contributions is five years. So, if you were to leave your employer or be terminated before the vesting period is over, you might lose some or all the employer contribution.

Remember, your contributions are earmarked for retirement. In most cases, you’ll owe a 10% penalty and income taxes if you pull the money out before age 59½. But if you make it to that finish line, you could have money that has grown tax deferred.

Matching Roth 401(k) contributions

Some employers offer what is referred to as a Roth 401(k) in addition to a traditional 401(k). Contributions to a Roth 401(k) are made with after-tax money, or in other words, money that you’ve already paid taxes on. Traditional 401(k) contributions are made with pre-tax money, or money that you haven’t paid taxes on yet.

What this means from a practical standpoint is that you can withdraw money from a Roth 401(k) tax-free after you retire if you meet certain requirements. With a traditional 401(k), you’ll have to pay income tax on withdrawals in retirement. However, traditional 401(k) contributions (or deferrals) reduce your current taxable income, which could potentially reduce your current tax rate — Roth 401(k) contributions don’t do this.

The contribution limits for Roth 401(k)s are the same as for traditional 401k(s): up to $23,000 in 2024, or $30,500 if you’re 50 years of age or over. Unlike Roth IRAs, there is not an income limit for participating in a Roth 401(k). Note that employer matches to Roth 401(k) accounts are made into a traditional 401(k).

Frequently asked questions

Here are a few commonly asked questions about 401(k) matching.

Q: What is considered a good 401(k) match?

A: The best 401(k) match would be a 100% match up to the allowable limits. But any match is considered good since it represents a risk-free return on investment.

Q: What does a 6% 401(k) match mean?

A: This means that the employer is matching up to a total of 6% of an employee’s overall compensation to his or her 401(k) account on top of what the employee is contributing. So, if an employee is earning $50,000 per year, the employer’s match would not exceed $3,000.

Q: Is a 401(k) worth it with matching?

A: Every employee must decide if participating in a 401(k) plan is worthwhile given that person’s unique financial situation. However, an employer match usually makes participating and contributing at least enough money to receive the full employer match more attractive.

Q: What is an example of 401(k) matching?

A: Suppose an employee earns $50,000 annually and decides to contribute 10% of his pay to his 401(k) account, or $5,000 per year. Now suppose his employer matches 100% of employee contributions up to 6% of salary. The employer would make a matching contribution of $3,000. If the employer made a 50% match, the match amount would be $2,500.

To see an example of 401(k) matching and potential growth over time, check out this 401(k) matching infographic.

Q: How do Roth 401(k) matching contributions work?

A: When employers make matching contributions to a Roth 401(k), the money goes into a separate traditional 401(k) account, not into the Roth account. This is due to the tax treatment of Roth funds.

Next steps

If you are not able to max out your 401(k) contributions, then a good strategy may be to contribute the minimum amount required to take advantage of your employer’s matching contributions.

Here are a few steps you can take now to help you manage and evaluate your 401(k).

  1. Analyze your retirement readiness. Empower offers a free tool called the Retirement Planner, which allows you to see how likely your current portfolio and retirement plan are to be successful. You can test out different scenarios to see how different expenses or timelines may impact your retirement plan.
  2. Use a guide. This pre-retirement checklist offers actionable steps you can take to help you get on track to retirement.
  3. Make sure you analyze how much you are paying in fees in your 401(k). Empower’s free Fee Analyzer tool will help you spot any hidden or excessive fees.

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Jesse Piburn

Contributor

Jesse has been working in financial services since 2012, beginning his career as a financial consultant with AXA Advisors in Denver, CO. While at AXA Jesse serviced a client base of individuals, families, and small businesses. Now as a Director of Advisory Services at Empower, he leads a team of financial advisors helping clients to develop personalized strategies to meet their financial goals.

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