A 401(k) is a type of retirement savings plan that is commonly offered by employers in the United States. It is named after the section of the U.S. Internal Revenue Code that governs it. The primary purpose of a 401(k) is to provide individuals with a tax-advantaged way to save for retirement.
Here’s how a 401(k) generally works:
Eligibility: Employees of companies that offer a 401(k) plan are typically eligible to participate. Employers may have certain criteria, such as a minimum age or a specific period of service, before an employee can enroll.
Contributions: Participants in a 401(k) can contribute a portion of their pre-tax income directly from their paycheck, up to a yearly limit set by the Internal Revenue Service (IRS). The contributions are deducted from the employee’s paycheck before income taxes are applied, which means they can lower the individual’s taxable income for the year.
Employer Matching: Some employers may offer a 401(k) matching program where they contribute a certain percentage of an employee’s salary into their 401(k) account, based on the employee’s contributions. This matching amount varies from company to company.
Investment Options: The funds in a 401(k) account can be invested in a variety of options, such as mutual funds, stocks, bonds, or target-date funds. The specific investment options depend on the plan provider and the choices made available by the employer.
Tax Benefits: One of the significant advantages of a 401(k) is its tax benefits. The contributions made to a traditional 401(k) are tax-deferred, meaning they are not taxed until withdrawn during retirement. This allows the money to grow and compound over time, potentially resulting in greater savings. However, withdrawals made in retirement are subject to ordinary income tax.
Withdrawals and Penalties: Generally, withdrawals from a 401(k) are not permitted before the age of 59½ without incurring a penalty, except for certain circumstances such as financial hardship. Once a participant reaches the age of 59½, they can begin making withdrawals, and these withdrawals are subject to income tax.
It’s worth noting that there are variations and specific rules within 401(k) plans, so it’s important to review the details of your particular plan or consult with a financial advisor for accurate and personalized information. Start investing for your future here. https://www.sofi.com/invite/invest?gcp=b35f4b89-475b-45f1-808d-5f68bc2e071d&isAliasGcp=false