Is a 401(k) a Defined Contribution Plan?

Written by True Tamplin, BSc, CEPF® | Reviewed by Editorial Team

Updated on January 04, 2023

401(k) plans are defined contribution plans, where the amount that the employee may contribute to the plan is what is defined.

For 2020, the maximum amount that an employee can contribute is $19,500, plus an additional $6,000 catch-up contribution if the employee is at least 50 years old.

The employer can also make matching contributions and attach these contributions to a vesting schedule.

This ensures that the employee will stay with the employer for at least a given period of time, such as seven years before he or she can walk away with all of their matching contributions.

401(k) plans stand in contrast to defined benefit plans, which guarantee a monthly lifetime payout of a certain dollar amount to their former employees who have retired.

Defined benefit plans are very complex and expensive to administrate, and they are considered to be a rare luxury in corporate America today.

401(k) Plans vs Pension Plans

Defined benefit plans are becoming increasingly rare, especially in today's low interest rate environment.

More and more of these plans are being replaced with defined contribution plans, which are far cheaper for employers to establish, administrate and fund.

It is possible for an employee to work for more than one employer that offers a 401(k) plan.

The employee can participate in both (or however many) plans, but the contribution limits are absolute.

The total contributions cannot exceed the contribution limits prescribed by the IRS in a given year.

For example, the employee described above could not contribute $19,500 to both plans in 2020.

He could only contribute amounts that add up to that amount between the two plans.

The contribution limits for 401(k) plans are indexed for inflation and thus usually increase by a small amount every year, or at least every other year in some cases.

 

Is a 401(k) a Defined Contribution Plan FAQs

What is a 401(k) plan?

A 401(k) plan is a retirement plan offered by an employer designed to help employees save for retirement.

Is a 401(k) a Defined Contribution Plan?

401(k) plans are defined contribution plans, where the amount that the employee may contribute to the plan is what is defined.

What is the difference between a Roth 401(k) and traditional 401(k)?

With a Roth 401(k), taxes are paid as money is put into the retirement account. With a traditional 401(k), taxes are paid as money is taken out.

Are there other retirement savings plans other than a 401(k) plan?

Alternatives to 401(k) plans include traditional IRAs, Roth IRAs, pension plans (if your employer offers one), and 403(b) retirement plans for employees of non-profit organizations.

About the Author

True Tamplin, BSc, CEPF®

True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.

True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide, a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.

To learn more about True, visit his personal website, view his author profile on Amazon, or check out his speaker profile on the CFA Institute website.

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