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What is a 401(k) Retirement Plan?

A 401(k) retirement plan is a tax-qualified contribution pension account outlined in subsection 401(k) of the United States Internal Revenue Code. Depicted in this plan are retirement savings contributions given by an employer and deducted from an individual’s paycheck before taxes. Contributions are limited to a maximum pre-tax annual amount.

What are the rules for taxing 401(k) payments?

It is all based on whether or not the contributions were paid pre-tax or after tax. For example, if income is $1000 but $200 is put into the 401(k) plan then only $800 is taxed from that income. This is indicative of pre-tax contributions. If this is the case then the payments will be taxable. If contributions are paid after taxes then the payments/distribution would be tax-free. There can also be a combination where some is contributed pre-tax and after tax. When this occurs then the payments or distribution would be prorated, some being taxed and some being tax-free.

Does a person pay taxes if they withdraw from their 401(k) retirement plan at 65-years-old?

Individuals that are over the age of 59½ that pull money from their 401(k) retirement plan are not charged the 10% penalty. They are, however, still taxed on that money if contributions were made pre-tax. Any amount pulled from the plan will be added to the individual’s taxable income for that year and will be taxed along with any other “taxable” income they may have.

Does an employer have to contribute to both salaried and hourly employee’s 401(k) plans?

Employers have the option of making contributions on behalf of all employees, making a contribution that matches the employee’s contribution, or both. The plan that is in place will outline what contributions are made and the percentage should be the same for all employees.

Can a person contribute to a 401(k) plan if they receive income solely from social security and veteran disability compensation benefits?

A person that is receiving veteran disability and social security benefits solely as their income is ineligible to participate in contributing to a 401(k) retirement plan. The reason for this is 401(k) plans are based on earned income and these two sources are unearned income. 401(k) plans are offered by employers or if a person is self-employed it can be offered through that business. An individual is not able to open a 401(k) without an underlying business.

Can an individual borrow from their 401(k) plan to use the money for the purchase of a house?  

The 401(k) plan does allow for loans. Employees Retirement Income Security Act (ERISA) which is administered by the Department of Labor, Title 26 of the US code which is administered by the IRS, and the 401(k) plan’s document are three things that govern the plan itself. If the documentation allows for loans then it must be paid back within five years. If it is not then the money will be treated as a distribution and will be taxed and additionally charged a 10% penalty if the individual is under the age of 59 ½ for early withdrawal.

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