Retirement plans at work - 401K
TODO
- Only 14% of Workers Reach This 401(k) Goal—Here’s Why It Pays Off to Try https://www.investopedia.com/only-14-of-workers-reach-this-401-k-goal-here-s-why-it-pays-off-to-try-11830734
- Is Your Retirement Fund on Track? Discover the Average 401(k) Balance for People in Their 60s https://www.investopedia.com/is-your-retirement-fund-on-track-discover-the-average-401k-balance-for-people-in-their-60s-11832248
- The pros and cons of taking out a 401(k) loan https://www.bankrate.com/retirement/borrow-from-401k-loan/
- Best strategies to Maximize your 401K https://www.investopedia.com/articles/personal-finance/091515/best-strategies-maximize-your-401k.asp
If you have a retirement plan at work, use it
Hundreds of thousands of companies in the US offer employees what are called “self-directed retirement accounts”. These plans allow you to contribute your own money to your own personal retirement account without paying taxes on it.
- The most common self-directed retirement account is known as 401(k) plan. The 401(k) is considered to be the mother of all retirement accounts.
- If you work for a non-profit organization such as a school or a hospital, you will be likely offered a similar plan called a 403(b) plan. (The numbers and letters refer to the parts of the tax code that established these various retirement plans.)
- In essence, both plans offer the same opportunities.
There are six key reasons why you shouldn’t pass up the chance to enroll in one of these plans if you are eligible.
- You don’t pay any income tax on the money you put into the plan or on any of the returns it earns for you over the years - not a cent in taxes until you take it out.
- As of 2006, you can put in as much as $15,000 a year (more if you are over age 50 and more in future years).
- You can arrange things so that your contributions are handled automatically through payroll deduction.
- It is free (most employees offer these plans to employees without charge).
- You may even get FREE MONEY from your employer (many companies offer to match a percentage of employee contributions).
- Think about it. $1.38 vs 77 cents. You get almost a 100% increase inn your net savings simply by using a pretax retirement account.
- By contributing to your plan from every paycheck, you can enjoy the miraculous benefits of compound interest.
401(k) plan
- 401K plans were introduced in 1980 as a form of defined contribution retirement plan.
- Employees can elect to have a portion of their wages or salaries paid or ‘deferred’ into a 401K account.
- Participants are then offered choices as to how the money should be invested. Participants can choose how to allocate their funds among the investment choices offered by the plan, which usually include a variety of mutual funds.
- With a few exceptions, no tax is paid on the money until it is withdrawn.
What are the taxes on a 401(k) distribution?
When you take a distribution from your 401(k), your retirement plan will send you a Form 1099-R (401(k) distribution tax form). This tax form shows how much you withdrew overall and the 20% in federal taxes withheld from the distribution. This tax form for 401(k) distribution is sent when you’ve made a distribution of $10 or more.
How does a 401(k) withdrawal affect your tax return?
Once you start withdrawing from your 401(k) or traditional IRA, your withdrawals are taxed as ordinary income. You’ll report the taxable part of your distribution directly on your Form 1040.
Withdrawals in retirement rules
The current age at which you’re able to withdraw without penalty from your 401(k) is 55 (if you left your employer in the year you turned 55 or later). If you left your employer before the year you turned 55, the 10% premature distribution penalty applies until age 59 ½.
History and Purpose of 401(k) Plans: Why They Were Created
https://www.investopedia.com/ask/answers/100314/why-were-401k-plans-created.asp
Updated October 06, 2025
By The Investopedia Team
As the most widely used and well-known retirement savings plans in the United States, 401(k) plans were the brainchild of benefits consultant Ted Benna. In 1979, Benna noticed that the rules established in the Revenue Act of 1978 made it possible for employers to establish simple, tax-advantaged savings accounts for their employees.
Key Takeaways
- The 401(k) plan was created by consultant Ted Benna, who saw an opportunity in the Revenue Act of 1978 to set up tax-advantaged retirement accounts for employees.
- Named after Section 401(k) of the Internal Revenue Code, these plans allow employees to defer part of their salary and avoid tax on that income until withdrawal.
- The popularity of 401(k) plans surged, growing from 7.1 million participants in 1983 to nearly 39 million by 1993, and covering an estimated 80 million people by 2019.
- Modern adaptations of the 401(k) include the Economic Growth and Tax Relief Reconciliation Act of 2001, which introduced catch-up contributions and Roth 401(k) options for enhanced post-tax benefits.
- While 401(k) plans offer tax benefits and protection against inflation, they also pose more risk to employees compared to defined benefit plans, which are federally guaranteed.
Evolution and Popularity of the 401(k) Plan
The term “401(k)” refers to Section 401(k) of the Internal Revenue Code. The provision allows employees to avoid taxation on parts of their income if they elect to receive it as deferred compensation rather than as direct pay.
Benna designed the 401(k) plan for a bank client seeking to give employees additional retirement benefits. However, the bank rejected the idea because it had never been done before, so Benna offered the first 401(k) plan to his own employees at The Johnson Companies. By 1981, the IRS had proposed formal rules for 401(k) plans.
By the next year, several large companies began to offer new 401(k) plans to employees. Participants in 401(k) plans could then use their deferred income to make investments without being taxed on gains.
These new accounts quickly became popular. In 1983, 7.1 million employees participated in a 401(k) plan, a number that grew to 38.9 million by 1993. As of 2019, 401(k) plans covered an estimated 80 million people and held $5.7 trillion in assets.
In 2001, Congress passed the Economic Growth and Tax Relief Reconciliation Act, which enabled catch-up contributions for participants age 50 and older. The act also allowed companies to offer Roth 401(k) accounts, which require post-tax contributions but provide the benefit of tax-free growth and distribution.
Benefits and Considerations of 401(k) Plans
Modern 401(k) plans were not an intentional design of the U.S. government or the Internal Revenue Service. Indeed, the U.S. Treasury Department under Ronald Reagan proposed killing the 401(k) in 1984. The concern was that tax receipts would fall too fast as more workers funded their retirement plans.
Employees receive two significant benefits from 401(k) plans and other tax-exempt retirement accounts: first, there is the obvious tax benefit. Second, employees have a way to protect their retirement savings from losing real purchasing power through inflation. On the downside, 401 (k) plans are riskier for employees than defined benefits plans, which are federally guaranteed.
There are obvious benefits to employers as well. For instance, the costs of offering retirement benefits have declined significantly. Small businesses particularly benefit from the new defined contribution plans. The plan allows these businesses to offer similar benefits packages to employees as those found in larger companies, leveling the playing field.
The federal government encourages the use of 401(k)s and other retirement plans. Even though tax receipts decline as more people participate, a population that funds its own retirement ends up reducing government expenditures on welfare programs for the elderly.
Reading material
- Benna 401k. “A Brief History of 401K.” http://benna401k.com/401k-history.html#
- Internal Revenue Service. “401(k) Plans.” https://www.irs.gov/retirement-plans/401k-plans