401(k) Plan

A 401(k) plan is a retirement savings plan offered by many American employers that has tax advantages for the saver. It is named after a section of the U.S. Internal Revenue Code (IRC). The employee who signs up for a 401(k) agrees to have a percentage of each paycheck paid directly into an investment account. The employer may match part or all of that contribution. The employee gets to choose among a number of investment options, usually mutual funds.

There are two basic types of 401(k)s-traditional and Roth-which differ primarily in how they're taxed:

• With a traditional 401(k), employee contributions are pre-tax, meaning they reduce taxable income, but withdrawals are taxed.
• Employee contributions to Roth 401(k)s are made with after-tax income: There's no tax deduction in the contribution year, but withdrawals are tax-free.

Employer contributions can be made to both traditional and Roth 401(k) plans. The 401(k) plan was designed to encourage Americans to save for retirement. Among the benefits they offer is tax savings. Always check with an accountant, or qualified financial advisor prior to withdrawing money from either a Roth or Traditional 401(k). However, not all employers offer the option of a Roth account. If the Roth is offered, you can choose between a traditional and Roth 401(k). Or you can contribute to both up to the annual contribution limit.