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If you want to invest for retirement, a 401(k) is a great place to start. A 401(k) is an employer-sponsored retirement account that gives you tax advantages for investing. Many employers sweeten the deal by matching some or all of your contributions.
The 401(k) gets its name from the section of the Internal Revenue Code that established the 401(k). But don’t worry: You don’t need to pore over the tax code to understand the basics of a 401(k). We’ll break down what a 401(k) is, how it works, some key benefits, and the rules you need to know for your retirement planning.
Learn more: Retirement planning: A step-by-step guide
A 401(k) is a type of retirement plan that lets you invest part of your paycheck in a tax-advantaged account that’s managed by your employer. Many companies encourage workers to save by offering an employer match. To participate in a 401(k), you’ll need to work for an employer that sponsors one.
A 401(k) isn’t the only type of retirement account employers offer. For example, your employer might offer a similar plan called a 403(b) if you work for a public school or charity.
But some employers (most commonly small businesses) don’t sponsor any type of retirement plan. The U.S. Bureau of Labor Statistics reports that only 58% of people employed by a business with fewer than 100 workers have access to retirement benefits. If your employer doesn’t offer a 401(k), you can still save for retirement through an individual retirement account, or IRA.
401(k) plans must meet the standards of a federal law called the Employee Retirement Income Security Act of 1974, or ERISA. The law sets a host of rules about things like how the plan is managed, who’s allowed to participate, and disclosure requirements.
Learn more: How to start investing
When you’re enrolled in a 401(k), the money you contribute is automatically taken out of your paycheck. You can get a tax break either on your contributions or your withdrawals, depending on the type of 401(k) you choose.
You contribute pre-tax money, which lowers your taxable income for the year. Your investments grow on a tax-deferred basis. When you withdraw your money later on, your distributions are taxed as ordinary income.
You contribute money you’ve already paid taxes on, so you don’t get a tax break in the year you contribute. As with a traditional 401(k), your money grows on a tax-deferred basis. But once you’re retired, you get to make tax-free withdrawals.
When you enroll in a 401(k), you’ll need to choose the type of account (most employers now offer both traditional and Roth accounts), the percentage of your salary to invest, and your investments. Many 401(k)s let you choose from several different mutual funds, which pool money from many investors and then invest in a basket of securities.
One of the best perks of a 401(k) is that many employers match a portion of your contributions. Some employers match contributions dollar-for-dollar, while others offer a partial match or a combination of the two.
For example, in one common match scenario, employers match the first 3% of employee contributions dollar for dollar, then offer a 50% match on the next 2%, bringing the maximum employer contribution to 4% of the worker’s salary.
The IRS sets annual contribution limits for 401(k)s and other tax-advantaged retirement accounts. These limits are adjusted annually for inflation. You can’t contribute more than you earn in a given year to your 401(k).
If you’re 50 or older, you’re allowed to make what are known as catch-up contributions, which are extra contributions afforded to workers getting closer to retirement. Beginning in 2025, you’ll also be allowed even higher catch-up contributions if you’re between the ages of 60 and 63 under new rules of the Secure Act 2.0, a bill President Biden signed into law aimed at improving retirement security.
If you switch jobs, you may opt for a 401(k) rollover, where you “roll” funds from your past employer’s plan into an account at your new job. Any funds you roll over won’t count toward your annual contribution limits.
Learn more: IRA contribution limits for 2025
A 401(k) is one of several types of tax-advantaged retirement accounts.
IRA is an acronym for individual retirement account. The big difference between a 401(k) vs. IRA is that a 401(k) is sponsored by your employer, whereas an IRA is an account you open independently that isn’t tied to your job.
Compared to 401(k) limits, IRA contribution limits are fairly low. In 2024 and 2025, you can only contribute up to $7,000 to an IRA, or $8,000 if you’re 50 or older.
401(k)s and 403(b)s are both employer-sponsored retirement accounts. The main distinction is that 401(k)s are typically offered by private-sector companies, while 403(b) plans are limited to public schools, churches, and charities with 501(c)(3) tax status.
401(k) and 403(b) accounts are subject to many of the same rules and contribution limits. However, some 403(b) plans allow participants to make an additional catch-up contribution if they have at least 15 years of service with the organization. 403(b) plans usually have fewer investment options than 401(k)s.
A 401(k) is what’s known as a defined-contribution plan, which means that your employer decides how much they’ll contribute to the account, but the account’s value ultimately depends on investment performance. You’re not promised any benefit when you retire. That’s a key distinction between 401(k)s vs. pensions (also known as defined-benefit plans), which guarantee a benefit based on factors like years of service and your average salary at the time you retire.
A good rule of thumb is to save at least 15% of your pre-tax income for retirement. If you get an employer 401(k) match, that counts toward your goal. You can include money you save in your 401(k), as well as an IRA.
If you can’t afford to save that much, aim to at least put enough in your 401(k) to get your company’s full 401(k) match. Then, make it your goal to save more as your income increases. If your expenses drop — for instance, you pay off your car or credit card, or your child starts school and you’re no longer paying for daycare — try to divert some of the savings toward your 401(k).
While there’s no one-size-fits-all rule for how much you should have saved in a 401(k), Fidelity provides these retirement-savings-by-age guidelines to help you set a benchmark:
A 401(k) is designed to encourage people to save for retirement, so you’ll often face penalties if you withdraw money early. You’ll typically pay a 10% early withdrawal penalty on distributions you take before age 59 ½, on top of applicable taxes.
There are a few exceptions, though. Some plans allow for hardship distributions if it’s needed for “an immediate and heavy financial need.”
You may be able to avoid the 10% penalty (but not the tax bill if you funded the account with pre-tax money) in certain situations, such as:
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You become totally and permanently disabled
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You experienced economic losses due to a federally declared disaster where you live
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You have unreimbursed medical expenses above 7.5% of your adjusted gross income
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You’re a military reservist called to active duty
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You’ve been diagnosed with a terminal illness by a physician
Under “the rule of 55,” you can also avoid a penalty on 401(k) withdrawals if you leave your job the year you turn 55 or older (or 50 for some public safety workers). However, this rule only applies to your 401(k) for the employer you were working for when you left your job. You’ll still need to pay taxes on any non-Roth withdrawals.
Many (but not all) plans allow 401(k) loans of up to whichever is less:
If your 401(k) has less than $10,000, you may be allowed to borrow the full amount, depending on your employer’s rules.
When you take out a 401(k) loan, you won’t owe taxes or a penalty on the distribution unless you don’t repay the loan as agreed. You’re required to pay back the full amount you borrow, plus interest, within five years.
However, if you leave your job, you’ll usually need to repay the loan by the time you file your tax return for the year. For example, if you leave your job in May 2025 and have an outstanding 401(k) loan, you’d need to repay it when you file your taxes for 2025 in April 2026, or October 2026 if you requested a tax extension.
If you have a traditional 401(k), you can’t let your money grow forever. Annual taxable withdrawals called “required minimum distributions” (RMDs) are mandated once you’re 73 (previously age 72).
Note that RMD age is scheduled to increase to 75 in 2033 under the Secure Act 2.0. As of 2024, Roth 401(k)s are no longer subject to RMDs.
If you need to track down an old 401(k), contacting your former employer is a good place to start. You can also search the National Association of Registry of Unclaimed Retirement Benefits, the Department of Labor’s Abandoned Plan Program, and the Pension Benefit Guaranty Corporation databases, as well as your state’s unclaimed property division website to find your 401(k).
A common recommendation is that you should have around one year’s salary saved for retirement by age 30. If you’re not quite there, try to increase your 401(k) or IRA contributions, or make a plan to up your savings percentage next time you get a raise.
Bartenders and other service industry workers can have a 401(k) if their employer offers one or if they belong to a union that offers a retirement plan to its members. You’re more likely to be offered a 401(k) if you work for a large restaurant or hotel chain, as many small businesses don’t offer retirement benefits. If you don’t get a 401(k) through your employer, you can still save in an IRA.