Regular 401(k)s, Roth 401(k)s, and Db(k)s

A 401(k) plan is a qualified retirement plan that is funded primarily through employee contributions via salary reductions (self-employed individuals can make so-called employee contributions). Companies can or must make certain matching contributions, depending on the circumstances. Company (employer) contributions vest for participants in the same manner as contributions to other defined contribution plans explained earlier in this chapter. They were legislatively created in 1978, and by 1981, half of all large corporations had adopted them. Today, use of 401(k)s is not exclusive to large corporations; even a sole proprietor with no employees can use a 401(k).

These 401(k) plans allow employers to offer retirement benefits to employees that are largely funded by the employees themselves. To encourage employees to participate in the plans (employers cannot force employees to make contributions), employers may offer matching contributions. For example, an employer may match each dollar of employee deferral with a dollar of employer contributions or some other ratio. Employers who offer 401(k) plans must be careful that stringent nondiscrimination rules are satisfied.

Essentially, these rules require that a sufficient number of rank-and-file employees participate in the plan and make contributions. If the nondiscrimination rules are not satisfied, the plan will not be treated as a qualified plan and tax benefits will not be available. Explaining ...

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