401k Rules

There are some specific 401k rules you need to know if youwant to participate in a 401k plan provided by your employer.Currently, 410(k) is the most popular employer-sponsored retirementplan (forother types of retirement plans, click here). As of year-end2003, there were estimated to be 438,000 plans with 401k features, withtotal assets to be about $1.9 trillion and 42.4 million activeparticipants.

1. 401k Rules Regarding Contribution:

• In 2005, the cap for individual contribution is $14,000.This number increases to $15,000 in 2006, and after 2006, the cap willadjust annually in $500 increments.
• The maximum total amount contributed to your 401k plan isthe lesser of 100% compensation or $42,000.
• If you’ll be age 50 or older by the end of theyear, you may make an additional “catch-up”contribution each year. The maximum “catch-up”contribution is $4,000 in 2005 and $5,000 in 2006.
• For highly compensated employees (those with income inexcess of $95,000 in 2005), they may not be allowed to contribute atthe maximum rate in the company.
• You can only contribute money to your 401k plan byautomatic payroll deduction.
• You may not get your employer’s match if youleave your employer in less than three years. However, more and morecompanies have began offering immediate vesting to their employees

2. 401k Rules Regarding Withdrawals:

• Since you contribute money to your 401k plan tax free, youmust pay income taxes on all withdrawals, unless you rollover the moneyto another employer-sponsored plan or to an IRA.
• You have to wait until age 59 ½ to tap youraccount without a 10% early withdrawal penalty. However, if you leaveyour company when you’re age 55 or older, or if you becomedisabled, you don’t have to pay the 10% penalty.
• Many 401k plans only allow early withdrawal if it is forfinancial hardship purposes. An employer can determine its owndefinition of “hardship”, but many use“safe harbor rules” which allow withdrawals for thefollowing reasons: 1) To pay medical expenses, 2) To cover down paymentor to avoid eviction or foreclosure on primary residence, 3) To paycollege tuition, and 4) To cover funeral expenses for a family member.
• You must begin taking minimum required distribution (MRD)from your 401k plan by April 1 following the year your reach age 70½ or the year in which you retire, whichever is later. Youcan take more than MRD in a given year. However, you can’trollover MRD to another tax-deferred account.

3. 401k Rules Regarding Loans:

• You have to repay your loan in 5 years, unless the loan isused to purchase your primary residence.
• The interest you pay on your loan is subject to doubletaxation---you pay the interest with after-tax money and it issubjected to taxes when you eventually withdraw it.
• When you leave your company, you may have to pay back theoutstanding balance in full. Otherwise, the outstanding amount will besubject to a possible 10% early withdrawal penalty.
• If you default on your loan, the outstanding balance isalso subject to a possible 10% early withdrawal penalty.

4. 401k Rules Regarding Rollover:

• When you leave your employer for whatever reason, you canrollover all or part of your 401k fund to another employer sponsoredretirement plan or to a traditional IRA. Moving your 401k assets to anIRA gives you much greater investment flexibility because you caninvest your money how you see fit. On the other hand, the average 401kplan has only seven investment options.
• The best way of rollover is a trustee-to-trustee transferso that you can save the 20% tax withholding.

• What Is A 401k
• 401k Limits
• 401k Rules For Withdraw
• 401k Rollover To Ira
• 401k Prohibited Transactions
• 401k Fidelity Accounts
• Fidelity Investments 401k