One of the best things about securing an “old-fashioned” job with a full panoply of benefits (including medical insurance and paid vacation and sick leave) is that you'll also often be offered the opportunity to contribute to a 401(k) plan. Here’s some basic information about how you may choose to open up one of these accounts and how your personal taxes will be affected.
How 401(k) Plans Benefit Corporate Employees
When you opt to take part in your employer's 401(k) plan, you’re basically telling your bosses that you’d like to contribute part of your pre-tax salary to the plan. These programs require the employer to preselect a list of investments that you must agree to in order to benefit and take part in the plan.
If you have a particularly generous, kind or highly competitive employer, the company will often offer to match your contributions to the plan. These funds create an important type of personal pension plan for employees – just in the sense that it's money most people try to set aside for their retirement years.
The Simple Mechanics of a Basic 401(k) Plan
Here’s how your 401(k) plan might work. Let's assume you're a high-paid executive receiving an annual salary of $110,000. Next, let's assume you've decided to designate $10,000 a year of your pretax salary to be placed in your 401(k) plan. If you're fortunate, your corporation may offer to fully match your contribution – or at least add a certain percentage of it (like 50%) to your annual contribution. Therefore, you may be receiving $5,000 a year as a corporate contribution to your 401(k), in addition to your salary (or even up to the full $10,000 in matching funds.)
How Does the SSA View Such 401(k) Funds?
While earnings placed in a 401(k) avoid income taxes, they are still taxed for Social Security Administration (SSA) or FICA taxes. So, if you're like the hypothetical executive or worker indicated above and you’re earning $110,000 year (and you’ve chosen to place $10,000 in a given year in your 401(k), the IRS will tax $100,000 of your $110,000 income. However, in regards to the Social Security taxes all employees must pay, the SSA will hold you responsible for paying Social Security (FICA) taxes on the entire amount of the $110,000.
Smaller Corporations and 401(k) Funds
Smaller businesses cannot always offer to provide you with any matching funds. However, as the information above indicates, you'll still benefit some since the IRS will not currently tax the money you’ve diverted to your 401(k) plan -- up to a prescribed annual limit. If you find yourself working for this type of employer, you might want to ask if you may one day become eligible to receive either annual bonuses or gifts of stock in the company.
To obtain help with handling all of your Georgia business planning needs, please contact the Law Offices of Shane Smith today. You can schedule your free initial consultation with a knowledgeable Peachtree City estate planning attorney by calling: (770) 487-8999.