Your 401(k) and What to KnowReviewAdviceFAQ's

Your 401k and What to Know

A 401(k) plan is a retirement scheme enabling you to make pre-tax contributions to an account – your 401k account – and to have your employer, at its own discretion, contribute a specific portion to your account, in accordance with Internal Revenue Service (IRS) stipulations and the company's 401(k) plan's procedures. Money your contribute to your 401k account is not considered as income while you are working, so your employer would not report it on Form W-2 and you would not need to show that income when filling your Form 1040. 401(k) accounts, and the broader concept of retirement planning, are important topics to understand because you could use them to gradually build up a nest egg and plant the seeds of long-term financial freedom.

How Much Can I Contribute to my 401(k) Account?

The amount you can defer depends on IRS directives, specifically Publication 525, which relates to the larger subject of taxable and nontaxable income but also covers retirement plan contributions. As of 2013, the agency indicated that you could contribute up to $17,500 to your 401k account. Contributions to your account also may be limited by your plan administrator, so talk to your company's human resources department, particularly personnel handling retirement benefits, to learn more about terms and conditions of enrollment into the corporate 401(k) plan.

Your 401k and What to Know

Are There 401(k) Plans for Small Businesses?

  1. Publication 560 to learn more about retirement plans for small businesses, including ways to set up SEP, Qualified and SIMPLE plans.

SEP Plan

With a Simplified Employee Pension (SEP) plan, you can contribute to a retirement plan for yourself and each eligible staff member. According to the U.S. Department of Labor, the setup is easy and less costly and the plan provides employees with various benefits.


A SIMPLE Plan would suit you if your company has fewer than 100 employees, each of whom has earned at least $5,000 in the preceding 12 months or will earn that much in the following year. Your personnel can choose to contribute part of their earnings to the SIMPLE Plan, up to statutory limits the IRS publishes every year. For example, under SIMPLE IRA and SIMPLE 401k plans, you can contribute pre-tax income up to $11,500 if you are age 50 or younger – or up to $14,000 if you pass the 50-year mark.

Qualified Plan

This plan has more convoluted rules than SEP and SIMPLE plans, but suffice it to say that you have higher flexibility when setting up the plan and you also benefit from increased deduction and contribution limits in specific instances. Talk to a retirement plan specialist to learn more about how to get started on a qualified plan, especially when it comes to statutory guidelines for a defined contribution plan or a defined benefit plan.

What Are 401(k) Distribution Rules?

The IRS has extensively covered lump-sum distributions (Topic 142) and rollover from retirement plans (Topic 413) on its website.

  • The agency says you received a lump sum if you get, in a single fiscal year, your full balance from all your company-sponsored retirement schemes, covering things like stock bonus, qualified pension and profit sharing. You can report the distribution as full ordinary income or ordinary income and capital gain, typically on the Form 1099-R that your employer would send you at year-end.
  • The IRS says that you rollover funds when you transfer cash and other assets, such as stocks and mutual funds, from one eligible retirement plan to another. The validity period is 60 days after the withdrawal from the initial retirement account. You don't have to pay taxes on the rollover, but the IRS requires that you report the transaction.

Am I Penalized if I Withdraw Money from my 401(k) Account?

Normally, you get a 10% penalty when you cash in your 401k earlier than the statutorily allowed date, but the IRS waives that fee in specific circumstances, including:

  • You are a military reservist called to active duty and make some distributions
  • The IRS has already fined the 401k plan in the past
  • You have passed away and your beneficiary inherits the cash
  • You are entirely and permanently disabled
  • You have sizeable medical costs that were unreimbursed – typically when they exceed 7.5% of your adjusted gross income

Where Can I Get Help with 401(k) Questions?

You can reach out to professionals as diverse as financial planners, investment advisers and tax accountants to get more information about your 401(k) plan. Talk also to your company's plan administrator to become familiar with things like contribution limit and early-withdrawal penalties along with fiscal reporting guidelines. Web-based resources are a good place to look, too. For example, I have used 401k Calculator for the past several years and find the tool very helpful, especially when it comes to the critical task of figuring out how much you need to live comfortably in retirement and how much would be in your 401k account by then.

For example, say you entered the below personal data in the tool; the balance of your 401(k) upon retirement will be $1,963,567.

  • Annual salary: $60,000
  • Percent to contribute: 10.0 %
  • Employer match (% of contribution): 75.0 %
  • Current age: 30 Retirement age: 65
  • Current 401(k) balance: $500
  • Annual rate of return: 8.0 %
  • Expected annual salary increase: 2.0 %
  • Employer max (match ends at this % of salary): 5.0 %


401(k), and the broader topic of retirement planning, can seem complex if you are not familiar with the subtleties of retirement schemes and the applicable statutes. To get the gist of it, talk to a specialist and do your homework by visiting websites providing 401k tools and expert advice. Key things to remember when setting up or managing your 401(k) account include contribution limits, early-withdrawal fees and under what circumstances the IRS waives them, the best way to figure out how much you would upon retirement, and specific retirement plans that are available to small businesses and sole proprietorships.

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