Many employers offer retirement plans as an employee benefit. These plans consist of pensions, profit-sharing or 401(k) plans. Pensions refer to employer-funded plans. The employer contributes money toward a plan. The plan arrangement commits to paying the employee a specific amount of money when he retires. Profit-sharing plans refer to plans agreed to by the employer where a portion of the company's profit is contributed to the plan. 401(k) plans offer employees the most control over their retirement planning. The IRS sets two different limitations on 401(k) contributions. One limit considers employer contributions, while one does not.
401(k) plans grow primarily through the contributions of employees. Most plans include a variety of mutual funds. The funds vary in regard to the level of risk and the types of companies in which the fund invests. The employee chooses one or more funds in which to invest. The money the employee invests reduces her taxable income, and her money grows tax-free. When the employee retires, she withdraws the money and pays income tax on the money she withdraws.
Employees determine what percentage of their paycheck they wish to contribute to the plan when they enroll. The employer calculates and withholds the desired percentage. They can contribute up to their entire paycheck as long as their paycheck does not exceed the maximum contribution limit.
Many employers offer to contribute money to employees' 401(k) plans by matching the employee contributions. The employer may match the entire amount of the employee contribution or only a percentage. Employers state this match as a percentage of the employee's contribution. For example, the employer might offer a 50 percent match. This means the employer will contribute 50 percent of the total dollars the employee contributes. Many employers also set limits regarding what percentage of the employee's income they will contribute. For example, the company might offer the 401(k) match up to 10 percent of the employee's income.
The IRS sets maximum contribution limits regarding 401(k) contributions. The total dollar limit for 2011 equals $16,500. Employees can contribute as much as they want up to this limit. This limit applies to the employee contribution only. An additional limit of $49,000 or 100 percent of the employee's contribution, whichever is lower, applies for all contributions, including employer contributions.
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