Employer Matching in Retirement Plans

Employer matching is a great way to help employees save for retirement. It is also a great retention tool, as employees are likely to stay with a company that offers a competitive matching program.

However, employees need to understand their employer’s match terms and how they work.

Investment Options

Retirement plans like in Ubiquity can vary widely regarding investment options and other features, but they all have a critical thing in common: employer matching. While it’s not required by law, many employers choose to match employee contributions to a plan like a 401(k), which incentivizes employees to save for retirement. The 401(k) is the primary vehicle for deferrals of pre tax compensation. Still, other types of employer-sponsored retirement accounts, such as profit-sharing plans and Simplified Employee Pension (SEP) accounts, can also include matching contributions.

To meet IRS requirements for nondiscrimination, employer-matched 401(k) contributions must be made into an account separate from the employee’s regular pre tax paycheck. While this can sometimes work to the benefit of workers, it also means that they are locked into a specific investment vehicle that might have high management fees.

To help alleviate this problem, many plans feature automatic features that allow participants to enroll at a default contribution rate and automatically invest in a default investment option, such as a lifecycle fund or balanced fund. The participant can then change the default rate or the investment option at any time. However, it’s important to remember that the match from the employer will continue at the same level regardless of what happens.

Contribution Limits

Employers can choose to set their match limits in several ways. They can match a percentage of employee contributions up to a specific dollar amount or limit their matching grant to a portion of annual compensation. This latter approach requires employees to contribute more money to the plan to take full advantage of employer matches.

Typically, employer matching is limited to a maximum contribution amount of 6% of annual compensation. That means that if you contribute 6% of your salary, the company will match you dollar-for-dollar up to a total contribution amount of 6% of your compensation.

Some companies may also impose a vesting schedule on their matching contributions. This is a way to encourage employees to stay with the company longer to take full advantage of this benefit. Vesting periods vary from company to company, but a typical schedule is a five-year vesting period.

There are also contribution limits in place for traditional, safe harbor, and automatic enrollment 401(k) plans, 403(b) plans for education and nonprofit workers, and 457(b) and Thrift Savings Plans for government employees. These limits apply to the sum of elective deferrals, employee and employer matching contributions, and catch-up contributions for individuals aged 50 and over. The limits are currently $22,500 for employees and $61,000 for all other participants.

Vesting Schedules

Depending on your employer’s plan, you might contribute a percentage of your salary to your 401(k), and your company might match those contributions. But those funds don’t immediately belong to you — they are subject to vesting rules, which dictate how long you must work at your company to own employer-matched funds and other types of assets fully.

These include profit sharing, stock options and restricted stock units, and employer matching dollars in retirement plans. The vesting rules can get complicated, but the goal is to incentivize employees to stick around for a while and penalize those who leave early. The different schedules, including cliff vesting and graded vesting, have pros and cons for employees and employers.

Undercliff vesting, you are vested 100% in employer matches as soon as you have worked there for three years. With graded vesting, you become awarded in employer matching and profit-sharing funds over six years, with 20 percent of your employer’s match vesting each year of service. The IRS sets the rules governing vesting, and there are limitations on how long an employer can require you to work at the company before you’re 100% vested in employer-matched savings. There are also accelerated vesting options, typically triggered by specific events such as a change to the plan’s investment choices (single trigger) or a merger or sale of the company (double trigger). However, any changes in the vesting schedule must comply with the anti-cutback rule, which prevents companies from reducing the amount of money they’ve earned through previous vesting periods.


The main advantage of 401(k)s is that employees can defer pretax earnings up to a specific percentage of their wages. Employers may match these contributions, providing a valuable incentive for workers to participate. However, the effect of employer matching on participation and contribution levels depends on the framing of the plan and individual characteristics. Ultimately, the size of employer matches and employee borrowing limit how many dollars workers contribute to their retirement plans.

Workers must pay income and employment taxes on the amount received when they receive a bonus or raise. When employers provide a cash or stock bonus, they also must pay tax obligations on the value of the gift. But when a worker invests this money in their retirement account, the taxes are only owed upon withdrawal from the account at retirement.

Several studies have used the April and May 1992 CPS to study the relationship between 401(k) plan participation and individual characteristics, including age, income, job tenure, sex, and home ownership. The research shows that while the presence of a plan increases participation rates, the effect diminishes with greater age and income.

A similar study using 1994 administrative data correlated participation rates with individual and plan characteristics, including employee wages, a defined benefit plan, the generosity of a 401(k) plan, and communication. The results showed that although higher replacement rates increased participation, they did not increase contribution rates. This is likely because employees already contributing at or near the maximum allowable amount tend to be bunched in one of three constraints—the whole plan match, a required employee contribution of 6 percent of compensation, or the Internal Revenue Service’s limit on employee contributions.

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