401k
A tax-advantaged retirement savings plan offered by employers in the United States, where contributions are deducted from salary before taxes.
Example
“She contributed 10% of her salary to her 401k and her employer matched 5%.”
Memory Tip
401k is named after a section of the tax code. Just remember: it's your workplace retirement account.
Why It Matters
A 401k is one of the most effective ways to save for retirement because contributions reduce your taxable income immediately, and the money grows tax-free until withdrawal. Understanding how to use this benefit can significantly impact your retirement security and overall financial health.
Common Misconception
Many people believe that money in a 401k is locked away forever with severe penalties for any withdrawal, but most plans allow loans against your balance and offer penalty-free withdrawals in genuine hardship situations. However, early withdrawals before age 59 and a half do typically incur a 10 percent penalty plus income taxes.
In Practice
If an employee earning 60000 dollars per year contributes 6000 dollars annually to their 401k, they only pay income taxes on 54000 dollars that year, saving roughly 1500 dollars in federal taxes while building retirement savings. If their employer matches 50 percent of contributions up to 6 percent of salary, they receive an additional 1800 dollars in employer matching funds annually at no cost.
Etymology
Named after section 401(k) of the Internal Revenue Code, added in 1978.
Common Misspellings
Build your retirement portfolio with low fees
Related Terms
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See Also
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