Understanding 401(k) Vesting Schedules

A thoughtful female is thinking about 401k vesting schedules.

Key Takeaways

  • Vesting refers to ownership of the funds in your 401(k) account. You are immediately 100% vested in your own contributions, but your employer's matching contributions may vest over time.
  • Vesting schedules are used by employers to reward employee retention. The longer you work there, the more of the employer match you get to keep if you leave.
  • Common vesting schedules include graduated vesting over 2-6 years, or cliff vesting after 3 years. More generous immediate vesting is also an option.
  • Becoming fully vested usually requires staying at the company for the vesting period. Other events like retirement or plan termination can also trigger full vesting.
  • Employees should weigh the pros and cons of leaving a job before full vesting, considering factors like career goals, retirement timeline, and how close they are to the next vesting milestone.

If you're saving money for retirement through a work-sponsored plan, you may be lucky enough to receive 401(k) matching from your company. Employers can opt to help you build retirement savings by adding money to your 401(k). They may require you to make your own contributions first, but sometimes they'll contribute regardless of whether you do too. Either way, the benefit is clear: Extra money toward your retirement at no cost to you.

However, just because your employer deposits money in your account doesn't mean it's yours right away. Company contributions can be subject to vesting schedules. These determine the rules and timeline for when the full employer contribution is all yours.

It's important to understand the ins and outs of 401(k) matching and vesting schedules. Different schedules can drastically affect how much money you have available at retirement. Here's a closer look at the basics of vested 401(k) plans, including the most common schedules, plus some important considerations regarding 401(k) matching and vesting.

What Is Vesting?

"Vesting" essentially means "ownership." For example, if you are 100% vested in your 401(k) balance, that means you own all of the money. If you are 80% vested, that means you own 80% of the money, and the other 20% still belongs to your employer. Many employers use vesting schedules to determine how quickly employees will become fully vested in an employer's contributions to their 401(k) plans.

You are, of course, 100% vested in any funds that you personally contribute to your 401(k). This includes your payroll deductions to retirement accounts.1 If your employer offers 401(k) matching, you may or may not be vested in those contributions right away. This will be determined by the specific vesting schedule for your retirement plan.

Why Have a Vesting Schedule in Your Plan?

Vesting schedules provide a way for employers to reward employees who remain with the company. These schedules are generally determined by an employee's length of service.

For employers, this helps prevent employees from exiting the company after a brief time and leaving with all of the employer's matching contributions. In one common vesting schedule, you might be vested in only 20% of your employer's contributions to your 401(k) after two years at a company; by the time you've worked at the company for five years, you would be 80% vested in those contributions.

Once you become fully vested in the total amount in your account, you can leave the company at any time and retain all of the funds in your 401(k), including matching contributions. If you leave the company before you are fully vested, you will need to relinquish some or all of the funds that were contributed by your employer.

Vesting schedules offer protection to employers. They should be made transparent to employees so that they understand the impact on their finances. As an employee, it's important to fully understand the vesting schedule at your company.

Understanding the ins and outs of your plan's vesting schedule can also help you weigh the pros and cons of leaving a company before you are fully vested in matching contributions. The vesting schedule could have a significant influence on your career plans, especially if leaving a job means losing out on retirement savings.

Types of Vesting Schedules

Two common types of vesting schedules are graduated vesting and three-year or "cliff" vesting. Here are some key details to know.

Graduated Vesting

With graduated vesting, you become vested in employer contributions over a period of time. That period of time varies: Employers can stagger vesting milestones over a period of up to six years.

The Internal Revenue Service sets the rules that govern and limit vesting schedules.2 For employees, this oversight is important; it means there are limitations to the required length of service at a company before they become fully vested in matching contributions. For example, an employer can't require an employee to stay at a company for 20 years before becoming fully vested.

Here is an example of the most restrictive 401(k) graduated vesting schedule, according to the IRS:

  • Less than 2 years of service: 0% vested
  • 2 years of service: 20% vested
  • 3 years of service: 40% vested
  • 4 years of service: 60% vested
  • 5 years of service: 80% vested
  • 6 years of service: 100% vested

Cliff Vesting

With cliff vesting, you become fully vested in employer contributions as soon as you have worked at the company for three years. Once you reach your three-year anniversary, you are 100% vested in all employer contributions. Before then, you are 0% vested in employer contributions. That means you forfeit those contributions to your 401(k) if you leave the company early.

Here is a look at a three-year cliff vesting schedule, according to the IRS:

  • Less than 3 years of service: 0% vested
  • 3 years or more of service: 100% vested

Other Vesting Schedules

Although the two vesting schedules outlined above are common, employers can offer more generous vesting schedules if they wish. This includes immediate vesting, in which employees become vested in their employers' 401(k) contributions without a waiting period. If your company offers immediate vesting, you can leave the company at any time without regard for vesting schedules and take your entire 401(k) balance with you.

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    What Causes Plan Participants to Become 100% Vested?

    In general, the answer is time, although that is not always the case.

    If your 401(k) plan is subject to a vesting schedule, you must stay with the company for the schedule's designated length of time in order to become fully vested. That could be two years, three years, six years or no time at all if your plan provides immediate vesting.

    If you leave the company when you are partially vested, you'll be able to retain some of the matching contributions made to your 401(k). That could be as little as 20% of the matching funds or as much as 80% of matching contributions.

    It's a good idea to ask a plan administrator to clarify how your 401(k) plan determines your length of service. Your plan may calculate your length of service by months or by hours worked. Your plan also may have different rules for employees with breaks in employment or lapses in service.3

    Plan participants can also become 100% vested once they reach normal retirement age or if the employer terminates the retirement plan for reasons such as bankruptcy or a merger.1

    Vesting & Safe Harbor Plans

    Some companies choose to set up a special type of 401(k) called a safe harbor plan.4 These plans require employers to make mandatory contributions to all employees' retirement accounts in order to qualify for tax benefits.

    Safe harbor plans can also provide benefits for employees: In some cases, participants are immediately fully vested in employer contributions to a safe harbor 401(k). That means you can leave the company at any time without forfeiting your right to some or all employer contributions to the plan.

    Keep in mind, if your employer makes contributions to your 401(k) that exceed the minimum mandatory contributions, those extra contributions may be subject to a traditional graduated or cliff vesting schedule.2

    Vesting & SIMPLE 401(k) Plans

    If you work for a small business, you may be a participant in a savings incentive match plan for employees SIMPLE) 401(k). This type of plan requires your employer to make mandatory minimum contributions to your 401(k), and it doesn't allow for vesting. If you have a SIMPLE 401(k), you're immediately 100% vested in your employer's contributions to the plan.

    Weighing the Options: Leaving a Company Before Full Vesting

    Vesting schedules help incentivize employees to stay with a company. For employers, this helps reduce turnover and increase retention. This can help businesses build a tenured workforce and reduce costs associated with recruiting and onboarding.

    But for employees, this can create a conundrum. What should you do if a new opportunity arises before you are 100% vested in your employer's contributions to your 401(k) plan? Is it ever a good idea to leave money on the table?

    There is no one-size-fits-all answer. It depends on your circumstances. If you are close to reaching the next vesting milestone in your plan's schedule, you might choose to stay with your current company until you reach it. For instance, if you will reach your three-year anniversary next month and your employer's plan offers three-year cliff vesting, you may want to avoid leaving your job before you reach that milestone. Otherwise, you'll leave retirement savings that you're close to earning on the table.

    Conversely, there may be situations when leaving before you are fully vested can outweigh the benefits of waiting. If you are on a six-year vesting schedule but not enjoying your job after the first year, it could be better for your career trajectory — and your finances — to leave for a new role that better aligns with your goals or pays better. But if you're four years into a six-year vesting schedule, that decision may be more difficult.

    You will also want to consider how close you are to retirement age. If it's early in your career, you likely have more time to recoup any losses from leaving a role before you are fully vested in matching 401(k) contributions. If you are gearing up to retire in the near future, you may want to stay in place to take advantage of as much 401(k) savings as possible.

    Bottom Line

    Ultimately, these decisions are highly personal and depend on your unique circumstances. Regardless of whether you're searching for a new job or planning to stay in place for the foreseeable future, it's important to understand the ins and outs of the 401(k) vesting schedule at your company. When in doubt, reach out to a plan administrator for detailed information about vesting schedules.

    For further guidance on planning for your future and retirement, meet with a financial professional who can help inform your decisions.

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    1. Retirement topics — vesting. https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-vesting.
    2. Issue snapshot — vesting schedules for matching contributions. https://www.irs.gov/retirement-plans/issue-snapshot-vesting-schedules-for-matching-contributions.
    3. Employee benefit plans. https://www.irs.gov/pub/irs-pdf/p6389.pdf.
    4. What you need to know about a safe harbor 401(k). https://money.usnews.com/money/retirement/401ks/articles/what-you-need-to-know-about-a-safe-harbor-401-k.

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