The 401(k) plan was designed to encourage more and more employees to save for retirement where the employees invest tax deferred dollars (from their pay) into a 401(k) account. The funds and earnings from investments of these funds in the account are taxed only upon withdrawal. This provision allows the employees to save for retirement and at the same time it provides them with greater tax advantage. Hence(,) 401(k) plans are preferred by most employees and offered by majority of employers.

Since 401(k) plans are offered and maintained by the employer, it is the employer who decides on the rules, regulations and facilities of the plan offered. And owing to the flexibility of the 401(k) plan, these vary from employer to employer.

Hence it is only the plan administrator who can educate the employee about such rules. But there are general rules of 401(k) set by the federal government that govern the plans as well.

Rules of Eligibility

• The person must be employed at the company that offers the 401(k) plan.

• An employee must be of age 21 or older to qualify for the plan.

• Most administrators require that an employee should complete a specified time period with the company before the plan is offered.

Eligibility rules for Employer

• The employer cannot make the employee wait any longer than a year for the 401(k) plan.

• An employee who during negotiations has opted not to participate in the plan can be exempted from the offer.

• Complete information of the plan must be provided to the employee and the plan must be in writing (Summary Plan Description).

• The assets of the plan must be in a trust fund and the employer is needed to have a complete recordkeeping database.

• Every year, the IRS mandates that a particular number or percentage of employees of the company must participate in the plan. If the number is not met, then the company cannot offer the plan to anyone.

Contribution Rules

Contributions rules for the 401(k) plans may be set by the employer sponsoring the plan and hence may vary from company to company. The limits on contributions are set by the employer but there are also limits on contribution set by the federal government for each year which cannot be exceeded.

• Employees cannot contribute more than 100% of their salary to the 401(k) account.

• For the year 2010, employees of age 49 and below, can contribute only up to $16,500 to the account or 100% of their compensation, whichever is less.

• If the employee is of age 50 and above, they can contribute an additional $5,500 to the account as ‘catch-up’ amount. Hence, they can make a total contribution of up to $22,000.

• The limits apply cumulatively to all 401(k) saving accounts held by an employee. That is, if an employee holds multiple 401(k) accounts, the total amount contributed to all the accounts should not exceed the stipulated limit.

• Employers may also match the contributions made by an employee to the 401(k) account. It should be noted that employer contributions are not included in the contribution limits.

There are also other general rules which apply to the 401(k) plan; for example, after enrolling for a plan, the plan administrator may ask the employee to allocate funds from the plan for investment. Also the money vested in the 401(k) account; including the employer contribution solely belongs to the employee and cannot be forfeited for any reason. Hence(,) when an employee leaves the company for any reason, he/she is entitled to the complete sum that the account holds, including the capital gains.

There are various other rules regarding the withdrawal and distributions made from the account as well as loans taken from the 401(k) account as well. These rules vary from employer to employer and also differ according to the type of plan and vendor. An employee must check with the plan literature for better understanding of the rules.