Rosalind Evans
Often touted as “free” money, an employer’s 401(k) match can significantly boost an employee’s retirement savings. However, it comes with a caveat – employees may need to wait six years to claim this money fully.
An employer’s match is their contribution to an employee’s 401(k) account, generally matching up to a certain percentage of the employee’s salary provided the employee also contributes to the plan. As per the Plan Sponsor Council of America’s most recent survey, approximately 81% of companies offering a 401(k) program contributed matching funds to their employees’ retirement savings in 2021.
Vesting rules, however, often prevent immediate ownership of these funds. In retirement terms, vesting refers to ownership. Companies implement varying vesting schedules to determine when savers fully own the employer’s contributions.
In certain situations, employees must remain with a company for at least six years before the matched funds are theirs. Leaving early might result in losing a portion of the money and the associated investment gains.
Once the match is 100% vested, an employee gains full ownership. It’s worth noting that employees always have complete ownership over their contributions.
According to the same survey by the PSCA, over 44% of 401(k), plans offer immediate full vesting of the employer’s match. This implies direct ownership of the entire matched amount, which is the most beneficial scenario for savers. This figure has risen from 40.6% in 2012.
The remaining 56% of 401(k) plans implement either a “cliff” or “graded” vesting schedule. Cliff vesting allows full ownership after a predetermined period. For instance, an employee becomes a complete owner of the company match after three years of service in a plan with three-year cliff vesting. However, they won’t receive anything before this.
On the other hand, graded vesting schedules gradually confer ownership at designated intervals. For instance, an employee with a five-year graded vesting schedule will gain 20% ownership after the first year, 40% after the second year, and so on until they achieve 100% ownership after five years.
Federal regulations mandate full vesting within six years. Nearly 30% of 401(k) plans to follow a graded five- or six-year vesting schedule for company matches, as per the PSCA survey. This method is most prevalent among small and medium-sized businesses.
Ellen Lander, founder and principal of Renaissance Benefit Advisors Group, has suggested that vesting schedules reflect a company’s culture and the views of executives managing the retirement plan.
Moreover, in certain circumstances, an employee can become fully vested, irrespective of tenure. For example, the tax code necessitates full vesting upon reaching the “normal retirement age” specified by the 401(k) plan, which may be 65 years or younger for some companies. Full vesting may also be granted in cases of death or disability.
While employer 401(k) matching can substantially enhance retirement savings, it’s crucial to understand the implications of vesting schedules. They can impact when and how much of the employer’s contribution becomes the employee’s property. With different rules across companies and plans, employees are advised to fully understand their specific plan details, including vesting timelines and contingencies. Awareness of these factors can help plan for the future and potentially avoid unforeseen losses.
