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Question for the Money Doctors

Question submitted on May 18, 2011.

Question

My son has been offered a job in texas as an engineer . they have a 401k plab whereby the company matches 8% when he contributes at least 2% of his pay What does this mean?

Answer

Thanks for the question and congratulations to your son.  Basically what that means is that if your son is willing to defer 2% of his salary into the 401(k) plan, then the company is willing to put an amount equal to 8% of his salary into the plan.  Let’s assume your son makes $50,000 per year; if he puts in $1,000 per year out of his pre-tax paycheck (2% of $50,000), then the company will match $4,000 (8% of $50,000).

This is a great deal for him. Most company plans are not this generous; many will match half of what an employee contributes up to 5%.  For every dollar he saves into the plan, his company is putting in four dollars up to 8%.  Your son could save more than 2% of his salary into the plan if he would like.  If he were my son, I would advise him to put in at least the 2% in order to get the “free money” from the company.  After a few years, he should be 100% vested in the plan, and the money will be his if he leaves the company (and could be rolled into an IRA).  Typically companies have a vesting schedule of around 5 – 6 years for full vesting (around 20% per year).  The money he puts in is always his money however. 

The more your son saves now, the greater impact it will have down the road.  It won’t seem like much money for a while, but over the years compound interest can turn a few thousand now into hundreds of thousands in the future.  I hope this helps.

Thank you,

Cory Colquette  


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