If your employer contributes to your 401(k) plan, your right to those contributions often depends on staying with your employer for a prescribed period of time or vesting schedule. This period of time can vary by company, although it's subject to some federal rules. Understanding the vesting schedule and rules at your company can reduce or even eliminate the possibility of forfeiting your employer matching contributions.
Key Takeaways
- If your employer makes matching contributions to your retirement plan, it's important to know what vesting is and how it works.
- Vesting means that you've earned the right to keep your employer's matching contributions to your retirement plan.
- If you quit or are terminated before your vesting period, you may have to forfeit your employer's contributions. You will keep the contributions you made though.
- Some companies may offer immediate vesting, but many others offer vesting "schedules" based on your length of service to that company.
What Is Vesting?
Vesting in a retirement plan refers to owning the funds in that plan. A 401(k) plan has two kinds of contributions—one that the employee makes and the other is the employer 401(k) match. You have a legal right to keep the contributions when you vest in your employer’s matching contributions. You've reached the point in time when you can leave or be fired by your company but retain that money.
Note
Employees are always 100% vested in their own salary-deferral contributions to a retirement plan. The same conceptapplies to SEP andSIMPLE contributions made by anemployer.
Types of Vesting
Although some employers do offer immediate vesting of their matching contributions, it's just as common that their rules force employees to vest according to a predetermined schedule. That prevents employees from quitting on Friday, taking with them the matching contribution money the company paid on Thursday.
What Is Immediate Vesting?
Approximately 48% of the defined contribution plans administered by the investment management company Vanguard offered immediate vesting for matching contributions in 2021, according to a study conducted by Vanguard.
Note
An employee who is immediatelyvested in her account balance owns 100% of it from the time employer contributions are made.
The employer can't take it back for any reason. You can make a contribution today, and even if you leave your employer tomorrow, you'll be 100% vested in your contributions and your employer's match.
Your employer contributions might also be 100% vested if your company uses a “safe harbor match.” You'd be 100% vested in that part of the company's contribution. Other circ*mstances can demand that you become 100% vested immediately as well. The money is all yours by law if the plan terminates or when you reach the plan's retirement age.
Graded Vesting Schedule
You vest in your employer’s contributions on certain anniversaries of your employment with a graded vesting schedule, typically becoming 100% vested after five or six years. Your schedule might be more generous than this example, but it can't be more stringent, thanks to the Pension Protection Act of 2006:
- After one year of service: 0% vested
- After two years of service: 20% vested
- After three years of service: 40% vested
- After four years of service: 60% vested
- After five years of service: 80%vested
- After six years of service: 100% vested
Companies are legally permitted to wait two to six years to fully vest an employee using this schedule.
Cliff Vesting Schedule
A cliff vesting schedule is much like it sounds—you won’t be vested at all for a period of time, then, like going off a cliff, you'll become vested all at once, which usually occurs after one to three years of employment.
This type of schedule obviously favors the employer. Again, your company’s cliff vesting schedule might be more generous than this one, but vesting will occur at least this quickly:
- After one year of service: 0% vested
- After two years of service: 0% vested
- After three years of service: 100% vested
Vesting of 100% is required after three completed years of employment. Any employer can use either a cliff vesting schedule or a graded vesting schedule, but not both.
The Bottomline
Make sure you're aware of your employer’s vesting schedule before making any major career decisions. Saving for retirement is important, so you won't want to voluntarily leave your job just before you're about to vest in a significant sum of employer matching contributions.
Of course, there are always exceptions, such as that a far superior job offer is on the immediate horizon, making it more likely that you'll be better off in the long run.
Frequently Asked Questions (FAQs)
What is a 401(k) vesting schedule?
A vesting schedule for a 401(k) plan is the manner in which an employer's contribution to a 401(k) plan becomes available to the employee. While employees have control over the money they contribute to a 401(k) plan, understanding your 401(k) vesting schedule can reduce or eliminate the possibility of forfeiting your employer matching contributions. Some companies offer immediate vesting, while others can offer graded vesting or cliff vesting. Graded vesting allows for some part of the employer match to vest each year, typically becoming 100% vested after five or six years. Cliff vesting implies contributions not vesting for a certain period of time and then suddenly becoming 100% vested.
How do you value 401(k) vesting as a part of your salary?
Employer contributions to 401(k) are additional funds that go towards your retirement savings. Their value depends on how much the match is and how it vests. For example, if you make $2,000 bi-weekly and contribute 5% or $100 towards your 401(k). If your employer matches 100% with immediate vesting, you get the additional $100 right away. If your employer has graded vesting, you may have partial ownership of the funds your employer contributes that increases each year, vesting fully around year six of employment. In the case of cliff vesting, you might have to wait a number of years before all of your employer contributions vest completely.
