What is a 401k Plan?

A 401k plan is a qualified profit sharing or stock bonus plan that contains a cash-or-deferred arrangement(CODA).  Under a CODA, an eligible employee may make a cash-or-deferred election to have the employer make a contribution to the plan on the employee’s behalf or pay an equivalent amount to the employee in cash.  The amount contributed to the plan under the CODA on behalf of the employee is called an elective contribution.  Subject to certain limitations (see annual limits), elective contributions are excluded from the employee’s gross income for the year in which they are made and are not subject to taxation until distributed.  For purposes of many of the rules applicable to 401(k) plans, elective contributions are considered employer contributions.

A 401(k) plan may be a stand-alone plan (permitting elective contributions only) or may also permit other types of employer contributions and/or employee voluntary contributions.  However, a 401(k) plan is the only method available under which employees may defer compensation on an elective, pretax basis to a qualified retirement plan.