If you’ve just started a new job and HR mentioned a “401(k)” during onboarding, you might be wondering what it is and whether you should sign up. The short answer: yes, you absolutely should — especially if your employer offers matching contributions. Here’s everything you need to know.
What Is a 401(k)?
A 401(k) is a retirement savings account sponsored by your employer. The name comes from the section of the U.S. tax code that governs it. It allows you to save and invest a portion of your paycheck before taxes are taken out, which lowers your taxable income today while your money grows for retirement.
How Does a 401(k) Work?
Here’s the basic flow:
- You decide what percentage of your paycheck to contribute (e.g., 5%)
- That money is automatically deducted from your paycheck before taxes
- It goes into your 401(k) account and is invested in funds you choose
- Your money grows tax-deferred until retirement
- When you withdraw in retirement (after age 59½), you pay ordinary income tax on withdrawals
The Magic of Employer Matching
Many employers offer to match a portion of your contributions — and this is essentially free money. A common match is 100% of your contributions up to 3-6% of your salary.
Example: You earn $60,000/year. Your employer matches 100% up to 4%. If you contribute 4% ($2,400/year), your employer adds another $2,400. That’s an instant 100% return on your investment before a single dollar is invested.
Never leave employer matching on the table. At minimum, contribute enough to get the full match.
2025 Contribution Limits
- Under 50: $23,500 per year
- 50 and older: $31,000 per year (catch-up contributions)
Traditional vs. Roth 401(k)
Many employers now offer both options:
- Traditional 401(k): Contributions are pre-tax. You pay taxes when you withdraw in retirement.
- Roth 401(k): Contributions are after-tax. Withdrawals in retirement are completely tax-free.
If you expect to be in a higher tax bracket in retirement, a Roth 401(k) may be better. If you want the tax break now, traditional is better. When in doubt, split contributions between both.
What Happens to Your 401(k) When You Leave a Job?
You have four options: leave it with your former employer, roll it into your new employer’s plan, roll it into an IRA, or cash it out. Never cash it out early — you’ll pay income taxes plus a 10% penalty. Rolling it into an IRA gives you the most investment flexibility.
Final Thoughts
A 401(k) is one of the most powerful wealth-building tools available to American workers. If your employer offers one, enroll immediately and contribute at least enough to get the full match. Then increase your contribution by 1% per year until you reach the maximum. Your retirement self will thank you enormously.
