Employer matching contributions

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Employer matching contributions are for employees participating in a defined contribution plan like a 401(k), 403(b) or Thrift Savings Plan (TSP)) and who may be eligible for an employer match on their contributions. Companies use a variety of matching rules and formulas, so it is imperative that each employee verifies the exact rules of their plan with their employer. While the rules of plans vary, this page attempts to outline some common themes and best practices.

Strategies to achieve the maximum match

Plan participants are regularly encouraged to contribute to the plan at least up to the point where they can gain the maximum match to which they are entitled.

In most cases, gaining the match can be as straightforward as contributing a certain percentage all year. For example, if the employer matches 50% of an employee's contributions up to 6% of the employee's salary, then an employee who regularly contributes 6% of her $100,000 salary all year will gain a $3,000 match on her $6,000 of contributions.

In this example, a couple of scenarios could cause the employee to miss out on the maximum match:

Skipping contributions

Suppose the employee with the $100,000 salary does not contribute for the first six months of the year, but in the last six months contributes $1,000 per month for a total of $6,000--the same total contribution amount as an employee who contributes 6% each paycheck all year. If the employer matches up to 3% of an employee's salary each pay period if the employee contributes 6% or more, then the additional contributions in the second half of the year are "wasted" in the sense that the employer will match only up to 6% of salary and no more.

For example, suppose two employees, Consistent Claudia and Procrastinator Pete, are are both paid the same $100,000 salary in 12 monthly paychecks. Claudia consistently contributes 6% each pay period, but Pete skips the first six months and doubles his contributions in the second half of the year:

Employer Matching Comparisons
Month Consistent Claudia Procrastinator Pete
Employee Contribution Employer Contribution Employee Contribution Employer Contribution
Jan $500 $250 $0 $0
Feb $500 $250 $0 $0
March $500 $250 $0 $0
April $500 $250 $0 $0
May $500 $250 $0 $0
June $500 $250 $0 $0
July $500 $250 $1000 $250
Aug $500 $250 $1000 $250
Sept $500 $250 $1000 $250
Oct $500 $250 $1000 $250
Nov $500 $250 $1000 $250
Dec $500 $250 $1000 $250
Total $6,000 $3,000 $6,000 $1,500

While both employees contributed the same amount over the year, under the rules of this plan, Claudia will gain the maximum match while Pete will get only half.

Some plans may have a "true up" provision in the plan that will help ensure that an employee who contributes irregularly will still get an employer match based on the employee's total annual contribution, rather than based on a formula for each pay period in isolation.[1]

Maximizing employer match

If your employer provides a matching contribution, you will want to maximize that amount. Take into account the following considerations:

  • As illustrated above, some employers match employee contributions only as they are made from payroll, and do not offer "make up" or "true up" contributions; one such employer is the Federal Thrift Savings Plan. This can cause an employee to lose out on some matching funds if:
    • The employee contributes the IRS maximum before the end of the year.
    • The employee suspends contributions for any period of time.
  • If the employer does offer true up contributions, then any shortfall in matching funds because of the scenarios above, will be added to the employee's matching funds at the end of the year to "true up" the employer's match. If your employer does offer to true up contributions, then many of the details in this section do not concern you as your employer will make sure you gain the maximum match.

The following considerations are for those who want to maximize their contribution to the IRS maximum, and earn the maximum match available:

  • Ideally, if you plan to contribute the IRS maximum, you should contribute a fixed amount per pay period as opposed to a percentage. For example, supposing you are paid two times per month and the IRS maximum is $18,000, then you should elect to contribute $750.00 per pay period ($18,000 / 24).
  • Many plans do not allow participants to specify a fixed contribution per pay period, but only offer a percentage contribution based on salary. In this case, calculate what percentage it would take to maximize over the course of the year. For example, if you earn $100,000 per year, and are paid twice per month, and the IRS maximum is $18,000, then, you would choose 18.0%.
  • If you have a variable salary, or if you get a raise or salary reduction, then you'll need to regularly recompute your contribution amounts to make sure you wind up contributing the maximum amount while also earning the highest matching amount you can.

Two or more jobs in one year

If a person expects to have the opportunity to contribute to two or more plans in the same year, then the employee should consider the rules for each plan (to the degree that's possible) to maximize the opportunity to both contribute as much as possible, and to gain the maximum possible employer match.

Employer matches for 401(k) Designated Roth accounts

Salary deferrals that you direct to a 401(k) designated Roth account qualify for company matching contributions. However, your employer must allocate any designated Roth matching contributions into the 401(k) pre-tax account, just like matching contributions on traditional, pre-tax elective contributions.[2]

Employer matches for SIMPLE IRA plans

An employer offering a SIMPLE IRA plan for employees must offer one of two matching contributions:

  • 2% non-elective contribution - 2% of each eligible employee’s compensation regardless of whether or how much the employee deferred, or
  • 3% matching contribution - match of employee’s elective deferrals on a dollar-for-dollar basis up to 3% of the employee's compensation. An employer is permitted to reduce the 3% limit to a lower percentage, but in any event, not lower than 1%, and may not lower the 3% limit for more than 2 calendar years out of the 5-year period ending with the calendar year the reduction is effective.[3]

Employers are required to make the 3% match on the employee’s entire calendar-year compensation, regardless of when the employee starts or stops contributing during the year. The maximum matching contribution is always 3% of the employees’ compensation for the entire calendar year. Matching contributions may be made on a per-pay-period basis, or by the due date of the employer’s tax return (including extensions).

However, employees should realize that the employer is only required to match the amount an employee actually contributes during the year up to a maximum of 3% of his calendar-year compensation. Thus an employee should select a minimum salary deferral of 3% of compensation to assure a full match.

For example, if an employee earning $50,000 a year elects to make 1% salary deferrals for the year the employer is only required to make a $500 match for the $500 deferral.[4]

See also

References

  1. The Big 401(k) Match Mistake at Forbes, 1/13/2012, retrieved Feb 7, 2013
  2. Retirement Plans FAQs on Designated Roth Accounts, viewed 17 December, 2014.
  3. Operating a SIMPLE IRA Plan, IRS, viewed 18 December, 2014.
  4. SIMPLE IRA Plan FAQs-Contributions, IRS, viewed 18 December, 2014.

External links