Part I –What is a 401 (k) plan and how you can save taxes by contributing to a 401 (k) plan?
If your employer offers 401 (k) plan but if you have never contributed to a 401 (k) plan, think again. This article outlines few basic key points that may be helpful & will provide you a basic understanding of how the 401 (k) plan works.
401 (k) plans allow for both employees and employers to contribute to the 401 (k) plan.
Employers have to follow certain rules and regulations & the department of labor regulates/oversees compliances for a 401 (k) plan.
Employees contribute to the 401 (k) plan based on pre-tax contributions from their gross salary. In most scenarios, these are automatically deducted from the employee paycheck.
Maximum 401 (k) Contributions : Employees can contribute up to $18,500 in 2018.
Employees over the age of 55 can contribute an additional $6,000 towards the 401 (k)
How 401 (k) helps to save taxes and here’s how it impacts your tax returns …
For the purposes of this example, we are assuming a gross pay of $60,000. If you contribute 10% of your pay towards 401 (k), it would be $6,000 for the year under the threshold for 2018.
When you are issued a W2 end of the year, your gross pay is $54,000 ( $60,000-$6,000). So, the $6,000 is not included in your tax calculation.
For 2018, with a 22% tax bracket the total tax savings would be $1,320
401 (k) plan early withdrawal penalty
If you invest in a 401 (k) and withdraw before the age of 59 1/2 you will be required to pay for early withdrawal penalty of 10%