401k Plans

What is a 401(k) Plan?

  • Named for the Internal Revenue Code Section 401(k)
  • Employees contribute part of their salaries on either a pre-tax (traditional) or post-tax (Roth) basis
  • The employer can provide a valuable benefit at comparatively little out-of-pocket cost.
  • Flexible features provide ability to adapt plan to company’s financial condition, desired tax deduction and other circumstances.

Pre-Tax Contributions (Traditional 401(k) Plan)

  • Employee Contributions (Elective Deferrals) made on a before-tax basis. Contributions are excluded from income for federal (and most state) income tax purposes.
  • Elective Deferrals and earnings accumulate tax-deferred. Taxes are paid upon distribution.

Roth 401(k) Contributions

  • Roth 401(k) contributions are made with after-tax dollars. Contributions are included as taxable income when contributed.
  • Qualified distributions from designated Roth 401(k)s and the related investment earnings are completely free from federal income tax.
  • Qualified distributions occur:
    • 5 years after the first Roth Contribution and
    • after the attainment of age 59 ½ or on account of death or disability

Other Types of Contributions

  • Employer Matching Contributions may also be made. This contribution may also be discretionary. Matching Contributions would only be made for those participants who elect to make 401(k) contributions
  • Employer Non-Elective Contributions (profit sharing contributions) may also be included as part of the Plan, with the same features as a stand-alone profit sharing plan.

Tax Advantages

For the Participant:

For elective deferral contributions:

  • Amounts contributed are not subject to federal (and most state) income taxes when contributed.
  • Earnings on contributions accumulate on a tax-deferred basis.
  • Taxes are paid upon distribution, which may result in a lower tax rate being applied

For Roth 401(k) contributions:

  • For qualified distributions, investment earnings are free from federal income tax. (Underlying contributions were made on a post tax basis and therefore not taxed again.)

For the Company:

  • Deductions for matching or other contributions.

Pension Review Services custom-designs 401(k) plans in order to meet the objectives of the client. Design features include:

  • Type of Contributions
  • Contribution allocation formulas
  • Eligibility requirements
  • Vesting schedules

Read about some specific design opportunities for 401k plans in our Case Studies section:  “More Bang for Your Pension Buck”.