Back to School: Funding Your 401(k)

by Jeff C. Johnson

The company defined contribution plan is the workhorse for wealth-building Americans. Are you taking full advantage of this asset-building tool?

The plan may have another name, might actually be a 403(b) plan or a Section 457 plan. I know, I know, this is all mumbo jumbo.

The basics work like this. You can put a percentage of your pay into a plan through your employer and it will grow without taxation until you retire. In 2014 the maximum amount that you can have withheld from your pay and deposited into a 401(k) plan is $17,500 (plus another $5,500 if you are 50 or older).

Now, if you choose, this amount withheld is not taxed as current income, and the contribution and all the future growth are not taxed until the money is withdrawn over your retirement years. This is a "traditional" or pretax plan.

Another choice is to have the payroll deduction made "after-tax." This is the so-called Roth 401(k) option. The money deposited has been taxed when earned, so it is not taxable at withdrawal in retirement. Also, 100 percent of the money that accumulates from growth is also not taxed at retirement.

There's more good news. Most companies match a portion of the contribution, usually something like 3 percent. So, if you make $50,000 per year and save 3 percent ($1,500), your company will match this amount with an additional $1,500 (though you will have to stay for a period of time at the company and become "vested").

This is number three in the Five Financial Foundations. The company tax-advantaged retirement plan is the largest pool of money that most regular people accumulate.