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The "vested"
portion of your 401(k) account is the part that belongs to you and cannot be forfeited if
you leave your job.
There are two types of 401(k) contributions: the contributions you make and the
contributions your employer makes (such as "matching" contributions). The money
you contribute, adjusted for any investment gain or loss, is always 100% vested. That
means this money is always 100% yours. The contribution your employer makes, on the other
hand, may be subject to a vesting requirement. This means that you must earn your employer’s
contribution over time.
Vesting requirements are very common in 401(k) plans. The two most common types of vesting
schedules are graded vesting and cliff vesting.
With graded vesting you own an increasing portion of the employer contribution each year
you are with your company. If your company had a five-year vesting schedule, you would be
20% vested after one year, 40% vested after two years, etc. By law, the longest vesting
schedule a 401(k) plan can have is 7 years. Employees must be at least 20% vested after 3
years, 40% vested after 4 years, 60% after 5 years, 80% after 6 years and 100% after 7
years.
With cliff vesting you become 100% vested after a set period of time. So if your vesting
requirement is 5 years and you leave your company after 4 years, you won’t get any of
the employer contributions.
The reason companies include a vesting requirement in their 401(k) plan is that it
provides an incentive for employees to stick with the company.
Say, for example, your company's 401(k) plan has a 4-year vesting schedule. But after two
years, when you are 50% vested, you decide to leave your job.
Your 401(k) account balance consists of:
Your contributions (adjusted for investment gain or loss) = $7,000
Employer contributions (adjusted for investment gain or loss) = $3,500
Your total account balance is $10,500. But your vested account balance is only $8,750
($7,000 plus 50% of $3,500). So by leaving your job after only two years, you've
essentially "lost" $1,750.
One last tip: if you are planning to leave your job, make sure you find out when the
employer matching contributions are deposited into the account. Some employers deposit
matching contributions every pay period, but others only make the deposits once a year. In
such a case, if you were to leave your job before the contribution for the most recent
year were deposited, you could lose a whole year's worth of matching contributions. |
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