DEFINITION.TODAY - The 401K is the best program ever. It is a program that has been put into law in the early 1980s that permits people with earned income to invest for retirement at work. This is very helpful for people who do not have large amounts of money to invest. The 401K encourages the age old way to obtain security by saving part of every paycheck. It is designed to allow the average employee to save enough to have a comfortable retirement with little effort on his part. And it allows employees to save by making a deduction from their income go into the 401K account.
The 401K program allows for the employer to contribute to the employee's account, generally matching one dollar for each two dollars taken from the employee's paycheck. Usually the employer match is up to 6%. This money is put in a mutual fund, picked by the employee from several choices that are offered; the employer does not own this money and cannot access any of it. It belongs to the employee.
The employee is not taxed on state income or federal as it goes into your saving, but the money will be taxed as earned income when it is taken out of the fund. A few companies match dollar for dollar up to 6%. You are permitted to put extra money above the company match if you are not in a high income bracket which would be based on your income tax filing status. If you are in a bracket over this amount, you may still be eligible for a partial 401K. The IRS may change this, usually upward, so if you are in this bracket, you should check IRS pub.580 or consult a CPA.
This money is to be left in this account until you reach age 59½. If you take it out sooner, you will have to pay 10% penalty and income tax. There are exceptions to this rule, but if you take money out, you lose the growth on that amount, which is significant over a period of years. At age 70½ you're required to take money out. This is called (RMD) Required Minimum Distribution Ii is based on your life expectancy as defined by the government.
Most companies have terminated their company retirement plans in favor of the 401K. The 401K has the potential of being better because of these three important factors:
Many pension funds require you to have a certain amount of time (usually 10 years) with the company before you are fully vested. With a 401K all the money that goes into this fund belongs to YOU. If you change jobs you may be able to leave it in the same fund, or you can roll it over into an IRA. Very few people stay in one job over a lifetime.
A pension plan (and some still do exist) is a form of compulsory savings, when firms put aside perhaps 20% of payroll into the company pension plan, to be allocated to workers when they retire. In contrast, 401k represents voluntary savings.
In the United States, all 401k Retirement Plans are similar. The general definition of a 401k plan would be that it’s a savings plan, by which private sector workers can save towards their retirement, and encouraged by the government with tax incentives. There are parallel plans for public sector and non-profit employees.
The contributions are invested by fund managers in a range of approved investment classes, and the pre-tax contributions as well as earnings on an account are taxed only when withdrawn.
Employers have the prudence whether or not to make matching contributions to their workers' 401k accounts. Along the way, there are fees and expenses — such as for administration, investment, and other services. If these fees total say 1½% pa, then a fund that reports 6% earnings in reality only generates a return of 4½% p.a. for you, the worker. And then if you allow for the impact of inflation, your retirement savings fund is really going nowhere. And this model has basically been replicated in all western economies.
The 401K program allows for the employer to contribute to the employee's account, generally matching one dollar for each two dollars taken from the employee's paycheck. Usually the employer match is up to 6%. This money is put in a mutual fund, picked by the employee from several choices that are offered; the employer does not own this money and cannot access any of it. It belongs to the employee.
The employee is not taxed on state income or federal as it goes into your saving, but the money will be taxed as earned income when it is taken out of the fund. A few companies match dollar for dollar up to 6%. You are permitted to put extra money above the company match if you are not in a high income bracket which would be based on your income tax filing status. If you are in a bracket over this amount, you may still be eligible for a partial 401K. The IRS may change this, usually upward, so if you are in this bracket, you should check IRS pub.580 or consult a CPA.
This money is to be left in this account until you reach age 59½. If you take it out sooner, you will have to pay 10% penalty and income tax. There are exceptions to this rule, but if you take money out, you lose the growth on that amount, which is significant over a period of years. At age 70½ you're required to take money out. This is called (RMD) Required Minimum Distribution Ii is based on your life expectancy as defined by the government.
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| What is 401K? |
Most companies have terminated their company retirement plans in favor of the 401K. The 401K has the potential of being better because of these three important factors:
- The 401K should grow into a large sum over a long period of time.
- Pensions pay the same amount over your retirement lifetime. If you needed extra money in your retirement years, it would not be available.
- The 401K money is yours by taking it out in small percentages during your retirement years, and added to your social security it should last over your lifetime, allowing you to live comfortably and leave a significant estate for your family.
Many pension funds require you to have a certain amount of time (usually 10 years) with the company before you are fully vested. With a 401K all the money that goes into this fund belongs to YOU. If you change jobs you may be able to leave it in the same fund, or you can roll it over into an IRA. Very few people stay in one job over a lifetime.
What is 401K?
And importantly, a 401k is not a pension plan - originally it was an option for employees of major American corporations to supplement the company pension plan, but over time (as corporations withdrew from offering company pensions) a 401k plan became virtually the only way to save for retirement.A pension plan (and some still do exist) is a form of compulsory savings, when firms put aside perhaps 20% of payroll into the company pension plan, to be allocated to workers when they retire. In contrast, 401k represents voluntary savings.
In the United States, all 401k Retirement Plans are similar. The general definition of a 401k plan would be that it’s a savings plan, by which private sector workers can save towards their retirement, and encouraged by the government with tax incentives. There are parallel plans for public sector and non-profit employees.
The contributions are invested by fund managers in a range of approved investment classes, and the pre-tax contributions as well as earnings on an account are taxed only when withdrawn.
Employers have the prudence whether or not to make matching contributions to their workers' 401k accounts. Along the way, there are fees and expenses — such as for administration, investment, and other services. If these fees total say 1½% pa, then a fund that reports 6% earnings in reality only generates a return of 4½% p.a. for you, the worker. And then if you allow for the impact of inflation, your retirement savings fund is really going nowhere. And this model has basically been replicated in all western economies.
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