401(a) vs. 401(k): What you need to know
Both 401(a) and 401(k) plans are Qualified Retirement Plans - also known as employer sponsored retirement plans.
Most Americans rely on qualified retirement plans when saving for retirement.
Despite that most of us don't know the features or benefits of the retirement plans that we use!
While you may be enrolled in quite a few retirement plans, this article will cover what you need to know about 401k versus 401a plans.
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To begin - what is a Qualified Retirement Plan?
Qualified retirement plans are retirement savings accounts generally offered by public employers and private employers that help their employees when saving for their retirement.
Employers want to retain their employees AND offer benefits packages that are competitive - qualified retirement plans satisfy both of those desires.
These employer sponsored plans are savings vehicles that meet specific requirements of the Internal Revenue Code section 401a.
By meeting those requirements, the employees and employer both receive special tax benefits for making use of that retirement savings plan.
For help with your own retirement goals, consider working with a financial advisor.
What is a 401k retirement account? What is a 401a retirement account?
401a and 401k plans are both quite similar and quite popular.
The main differences between these two plans involve what type of employer can offer the plan as well as the contribution amounts.
While both are fairly widely used, 401(k) plans cover more workers than 401a plans.
What is a 401(a) plan?
401a plans are defined contribution retirement savings plans.
They offer easy convenient ways for employees to set aside money for retirement in a tax advantaged way.
Who offers 401(a) plans?
401a plans are generally offered by non-profit or government organizations such as educational institutions or government agencies.
The plan is usually customizable and offered to employees as an incentive to encourage them to stay with the company.
Who is eligible to participate in a 401(a) plan?
Employees must be at least 21 years of age and have a minimum of 2 years of employment with their company to obtain eligibility to participate in a 401a plan.
Just because an employee is "eligible" to participate does not mean that the employer will extend an offer for the employee to participate in the plan.
Typically 401a participation is offered to specific employees in order to encourage them to continue to work for the organization.
How are employee contributions handled in a 401(a) plan?
While employee retirement plan contributions to 401a plans are voluntary contributions, employer contributions to the plan are not.
Usually when an employee opts to participate in the 401a plan their employer must commit to percentage based contributions based on the amount the employee chooses to contribute.
Another difference between 401(k) and 401(a) plans is that the employer decides whether contributions to a 401a will be pre tax or after tax.
Contributions on a pre tax basis will reduce your current year income by the amount of the contribution.
You will eventually pay income taxes on those contributions in the future when you withdraw the funds after age 59 1/2.
Contributions on an after tax basis will be taxed at income tax rates in the current year.
The benefit of after tax contribution is that you are never taxed on that money or the growth from that contribution ever again in the future.
What is a 401a plan "vesting schedule"?
Employee contributions to 401a plans are always fully vested.
This means that you always have the right to money you have contributed to the plan.
Employer contributions, however, may "vest" over time.
This means that you need to remain employed at the company for a specified period of time in order for that money to "unlock" and technically become available to you.
How long it will take to complete vesting schedules are determined by the employer - not the employee.
Be sure to ask for clarity regarding employer vesting schedules.
It is possible to lose "free money" in the form of employer contributions by making a rushed decision to leave your government employer or non profit employer.
What are 401a plan contribution limits?
401a plans have government regulated contribution limits.
The limit is different for employers vs employees portion of the contribution.
Because the amount changes year by year, we encourage you to check the IRS tables (which can be found here) for up-to-date information.
For 2024, the max an employee can contribute to a 401a is $69,000.
One thing to note is that unlike 401(k) plans, 401a plans do not offer the option for "catch up" contributions for individuals over the age of 50.
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What is a 401(k) plan
401(k) plans are defined contribution plans.
They offer easy convenient ways for employees to set aside money for retirement in a tax advantaged way.
Who offers 401(k) plans?
401(k) plans are usually offered by private sector employers and for profit companies.
The plan is usually customizable and offered to employees as an incentive to encourage them to stay with their employer.
Who is eligible to participate in a 401(k) plan?
Employees must be at least 21 years of age and have a minimum of 1 year of employment with their employer to obtain eligibility to participate in a 401(k) plan.
Unlike 401a plans (which are only offered to select individuals), 401(k) plans must be equally available to all full-time employees at the business.
How are contributions handled in a 401(k) plan?
Both employee and employer contributions to 401(k) plans are voluntary.
The employee can make their own decision how much they would like to contribute - which is usually a percentage of their paycheck.
In some cases, employers will elect to match the amount contributed by the employee into the 401(k) plan.
Employees can also choose whether they would like to contribute pre tax or after tax.
Contributions made on a pre tax basis will reduce your current year income by the amount of the contribution.
You will eventually pay income taxes on that money in the future when you withdraw the funds after age 59 1/2.
Contributions made on an after tax basis will be taxed at income tax rates in the current year.
The benefit of after tax contribution is that you are never taxed on that money or the growth from that contribution ever again in the future.
What is a 401(k) plan "vesting schedule"?
Employee contributions to 401(k) plans are always fully vested.
This means that you always have the right to money you have contributed to the plan.
Employer contributions, however, may "vest" over time.
This means that you need to remain employed at the company for a specified period of time in order for that money to "unlock" and technically become available to you.
How long it will take to complete vesting schedules are determined by the employer - not the employee.
Be sure to ask for clarity regarding employer vesting schedules.
It is possible to lose "free money" in the form of employer contributions by making a rushed decision to leave your government employer or non profit employer.
What are 401(k) plan contribution limits?
401(k) plans have government regulated contribution limits.
The limit is different for employers vs employees portion of the contribution.
Because the amount changes year by year, we encourage you to check the IRS tables (which can be found here) for up-to-date information.
For 2024, the max an employee can contribute to a 401(k) is $23,000.
One thing to note is that unlike 401a plans, 401(k) plans DO offer the option for "catch up" contributions for individuals over the age of 50.
The catch up amount is $7,500 bringing the employee limit up to a total of $30,500.
In conclusion
You may not directly have a choice regarding WHICH retirement plan you are enrolled in.
Nevertheless, it is wise to enroll and contribute to one of these plans to build wealth and plan ahead for your financial future.
If you are trying to make the best decision regarding your current 401a or 401(k), qualified financial professionals can be a great asset.
To help you qualify the best advisor for you, you can visit our guide on “Finding a Financial Advisor.”
If you need help in your retirement planning efforts, we at Peak Financial Planning are Fee Only Fiduciary Financial Planners and would be happy to help.
Please reach out to us via email or via our contact page if you’d like to get in touch.
If you found the information above helpful, click here to watch my free Masterclass training that explains how you can increase your income in retirement by up to 30% and avoid running out of money in retirement.
