Retirement benefits are an important perk for job seekers, especially in a competitive job market. To win over top talent, many companies don’t just offer a 401(k) account that an employee can put his own money into. Instead, these employers offer to put money into that account for employees, whether they’re just matching the amount the worker puts in or fully funding it. Many employers that put money into retirement funds for their employees don’t guarantee those funds until the employee has worked a minimum period of time. This is what’s known as being vested.
Employers who contribute to employees’ retirement funds may require the employee be vested, or work a certain number of years, before that contribution transfers to them.
What Does Vested Mean?
Traditionally, large employers and the government offered pensions to every employee. Pensions promised employees that if they worked for a specific period of time, they’d receive post-retirement income for the remainder of their lives. But while government jobs still come with this perk, the private sector has mostly left it behind, instead choosing to offer options like 401(k) plans, with only some companies putting their own funds in.
If you have a retirement plan with your employer and you fund it 100 percent, you don’t have to worry about being vested. Every dollar you put in is yours, so even if you leave after a few months, that money will be there for you when you decide you’re ready to take it. But if your employer is putting money into your account, you’ll likely have a minimum work period to satisfy before that money transfers to your name. This period, known as being vested, means that the funds the employer has put in belong to you, as specified in your employment agreement. If you match those funds, the amount you contribute will always remain in your name, but the employer portion will still adhere to those vesting requirements.
Full Versus Partial Vesting
Although the time period for vesting can vary dramatically from one employer to the next, it is common to see a period of four or five years. But some employers can require eight years or longer on the job before an employee is vested. You may see the term fully vested mentioned. This simply means that after that time period, 100 percent of the funds your employer has contributed are yours.
But another option is partial vesting, which offers a graded vesting schedule, depending on the time you’ve put in. Only some plans offer employers the option of graded vesting. SEP and Simple IRA plans, for instance, only allow 100 percent vesting. But for those who qualify, especially with 401(k) plans, employers have the option of setting percentages based on the number of years you’ve worked for the company. So, for instance, if you stayed three years, you would be 20 percent vested, which means you’d get 20 percent of the amount the employer contributed if you left before reaching the next milestone, which might be the fourth year. You would then be 40 percent vested. However, even with a graded vesting program, employers are required to ensure the employee is 100 percent vested by retirement age.
How Retirement Plans Work
As an employee, you’ve likely not put much time into thinking about how retirement plans work behind the scenes. You sign some paperwork, read some disclaimers and check your balance each year to see how your fund is doing. Employers generally work with a provider who invests the money you and/or your employer contribute. Usually, retirement money is invested into mutual funds in the form of stocks, bonds or cash equivalent funds. You’ll probably be asked some questions about the type of funds you’d prefer as part of the signup process, but HR departments can help with this.
Once you’re set up, you can expect to hear nothing else aside from notifications to check your balance. At one time, you’d be issued a paper statement to help you track how your investments were performing, but today’s retirement plans are handled mostly electronically. You may get an email with the information attached in document form. In many cases, though, participants are given access to a portal, through which they can log in and get updates. This may also provide information on where you stand in your vesting process. If, for some reason, you aren’t sure what the terms of your retirement plan are, though, your employer should be able to answer questions about the vesting schedule.
How Much to Contribute
When you start with a new employer, you’ll be asked to agree to the terms of the retirement plan. If you don’t agree, you don’t have to participate. However, there are benefits to participating, even if your employer doesn’t match your contribution. According to a 2016 survey, only 42 percent of millennial families have retirement accounts. Yet it takes an average of $738,400 to retire, according to the Merrill Lynch Finances in Retirement Survey. Failing to put at least some money into a retirement account could lead to serious issues later in life.
If your employer matches contributions into a retirement account, you should consider at least putting in the maximum your employer will match. This is extra money being offered that can only benefit you. Whether or not you choose to exceed that maximum is up to you. You can use online calculators to determine exactly how much you should be setting aside each month, but many experts recommend putting 10 to 15 percent of your income into a retirement account of some sort.
401(k) Versus IRA
You don't have to put all your money into your company's 401(k). If your employer offers to match up to a certain amount, you can always put in exactly that amount, then contribute to an outside account. You may find if you work for a large employer, though, that they’re able to negotiate lower fees than you’d find on your own, so it’s important to consider this as you’re weighing your options.
The biggest thing to understand when considering various retirement investment options is the tax impact. The traditional 401(k) and the traditional IRA both allow you to put money in pretax, which means you won’t pay taxes on them now. But you will pay taxes on them when you take them out at retirement. On the other hand, with a Roth 401(k) or Roth IRA, you'll put the money in the account after it’s already been taxed, but you’ll enjoy tax-free distributions when you retire. If you’re more interested in being able to freely enjoy your retirement savings without tax repercussions, the traditional option may be the best for you.
Vested Interest in a Company
You may also hear the term vested in terms of the interest you as an employee has in a company. This may sound different, but it’s the same concept as being vested in a retirement plan. Once you’ve been employed for a while, you may gain full ownership of stock shares of the company.
However, “vested interest” can be confused with another term, “vested in interest,” which refers to a beneficiary of a trust. A trust’s beneficiary is considered to be vested in interest if she is not required to meet any conditions before her interest in the trust can take effect. This means that when the primary beneficiary dies, a secondary beneficiary is then vested in interest and can begin enjoying the benefits of that trust.
Termination of Employment
If you leave your job before retirement age, you may wonder where your retirement savings stand. If you have a vested balance, that money will stay in place until you either reach retirement age and withdraw it or roll it over. If you’ve put money in, no matter how long you’ve been with the company, that money is yours.
Whether or not the money remains in place depends on the amount. If you have less than $1,000, your employer may simply write you a check for the amount to clear out the balance. If the amount is between $1,000 and $5,000, your employer will be required to set up an IRA if you’re being terminated. If you have more than $5,000, the money will simply remain in the account until you withdraw it.
Retirement Fund Rollover Options
Whether or not you’re vested, once you leave an employer, you aren’t required to leave your money in place. If you’re moving to a new employer, you can simply request that the plan administrator account roll your existing funds over into your new plan. This will involve some paperwork. You may need to wait until your new plan is in place to be able to move the money, but you can also have your withdrawal issued in the form of a check. As long as you deposit the funds in your new account within 60 days you won’t face a penalty.
But even if you’ve moved to a new employer, you have options for your retirement plan rollover. You can roll it over to a private plan with a brokerage that offers better rates. You also have the ill-advised option to cash out your plan and pay the taxes on it. There are online calculators you can use to determine exactly what those fees will be, but generally speaking, any money you take out early will be subject to income tax plus a 10 percent penalty if you withdraw it before you reach the age of 59½. However, if you have suffered a permanent disability and your disability or medical expenses are greater than 7.5 percent of your adjusted gross income, that penalty may be waived. If you left your employer after the year of your 55th birthday, you also won’t pay the penalty.
Taking Your Retirement
Once you’ve reached retirement age, it’s time to start thinking about withdrawing your retirement funds. If you aren’t careful, a large chunk of your savings can be taken by taxes, but there are strategies that can ensure you keep a larger share of the money. If your retirement plan is an IRA, you’ll need to familiarize yourself with the term required minimum distribution, which is the amount you’re required to take by April 1 the first year after you reach the age of 70½. Each year thereafter, you have to take the minimum amount by Dec. 1. If you don’t take the minimum amount, you’ll pay a hefty tax of 50 percent.
If, like many Americans, you’ve had multiple employers over your working life, you may find that things can get confusing when it’s time to retire. Consolidating everything into one account can simplify matters, both for your own accounting purposes and at tax time. But how much can you take out each year? Many experts recommend the 4 percent rule, which states that you can safely withdraw 4 percent from your retirement account each year. This not only gives you money to live on but helps draw your savings out for the decades you’ll live after retiring.
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- NerdWallet: The Average Retirement Savings by Age and Why You Need More
- The Motley Fool: The Average Cost of Retirement Is $738,400: Will You Have Enough?
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Stephanie Faris has written about finance for entrepreneurs and marketing firms since 2013. She spent nearly a year as a ghostwriter for a credit card processing service and has ghostwritten about finance for numerous marketing firms and entrepreneurs. Her work has appeared on The Motley Fool, MoneyGeek, Ecommerce Insiders, GoBankingRates, and ThriveBy30.