ABA Family Legal Guide

The Rights of Older Americans

Pensions

401(k) Plans and Simplified Employee Pension Plans

My employer offers a Section 401(k) plan. How does this differ from a traditional retirement plan?

A Section 401(k) plan is another kind of defined contribution plan. In the early 1980s, federal regulations were issued that permitted the use of salary reductions as a source of plan contributions. Since then, 401(k) plans have become very popular, and many companies have elected to set up 401(k) plans rather than provide a traditional pension plan as an employee benefit.

A 401(k) plan is funded by contributions you elect to make that are deducted from your salary before taxes. A 401(k) plan is therefore also often referred to as a deferred compensation plan. In some cases, the employer may match all or part of your contributions. There are limits on the amount that may be contributed, which increase annually. In 2004, there was a $13,000 cap on the amount you could contribute on your own behalf. It goes up by $1,000 a year through 2006. Effective in 2002, only for persons age fifty and over, the law also provides an additional increase in the contribution limits -- called "catch-up contributions" -- applicable to 401(k) plans. For 2004, the catch-up contribution limit is $3000 and increases by $1000 per year until 2006. Additional limits may apply to the amount that may be contributed on your behalf by the employer.