Preparing for Retirement Archives

Feb

2026

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401(k) Taxes: Rules on Withdrawals and Contributions

By Melanie Mannarino | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

Employer-sponsored retirement plans like a 401(k) are a common way for workers to save for retirement. According to the Bureau of Labor Statistics, a little more than half of private industry employees participate in a retirement plan at work. So participants need to understand how 401(k) taxes work to take advantage of this popular retirement savings tool.

With a traditional 401(k) plan, employees can contribute a portion of their salary to an account with various investment options, including stocks, bonds, mutual funds, exchange-traded funds (ETFs), and cash.

There are two main types of workplace 401(k) plans: a traditional 401(k) plan and a Roth 401(k). The 401(k) tax rules depend on which plan an employee participates in.

Traditional 401(k) Tax Rules

When it comes to this employer-sponsored retirement savings plan, here are key things to know about 401(k) taxes and 401(k) withdrawal tax.

401(k) Contributions Are Made With Pre-tax Income

One of the biggest advantages of a 401(k) is its tax break on contributions. When you contribute to a 401(k), the money is deducted from your paycheck before taxes are taken out, which reduces your taxable income for the year. This means that you’ll pay less in income tax, which can save you a significant amount of money over time.

If you’re contributing to your company’s 401(k), each time you receive a paycheck, a self-determined portion of it is deposited into your 401(k) account before taxes are taken out, and the rest is taxed and paid to you.

For 2025, participants can contribute up to $23,500 each year to a 401(k) plan, plus $7,500 in catch-up contributions if they’re 50 or older. In 2026, participants can contribute up to $24,500 a year to a 401(k), plus $8,000 in catch-up contributions if they 50 or older.

There is also an extra catch-up provision: For 2025 and 2026, those ages 60 to 63 may contribute up to an additional $11,250 per year instead of $7,500 in 2025 and $8,000 in 2026, thanks to SECURE 2.0 — for a total of $34,750 in 2025 and $35,750 in 2026.

However, there is one important change to be aware of. Under a law regarding catch-up contributions that went into effect on January 1, 2026, individuals aged 50 and older whose FICA wages exceeded $150,000 in 2025 are required to put their 401(k) catch-up contributions into a Roth 401(k) account. Because of the way Roth accounts work, these individuals will pay taxes on their catch-up contributions upfront, but can make eligible withdrawals tax-free in retirement. (See more about Roth 401(k)s below.)

401(k) Contributions Lower Your Taxable Income

The more you contribute to your 401(k) account, the lower your taxable income is in that year (aside from the catch-up exception noted above for certain individuals). If you contribute 15% of your income to your 401(k), for instance, you’ll only owe taxes on 85% of your income.

Withdrawals From a 401(k) Account Are Taxable

When you take withdrawals from your 401(k) account in retirement, you’ll be taxed on your contributions and any earnings accrued over time.

The withdrawals count as taxable income, so during the years you withdraw funds from your 401(k) account, you will owe taxes in your retirement income tax bracket.

Early 401(k) Withdrawals Come With Taxes and Penalties

If you withdraw money from your 401(k) before age 59 ½, you’ll owe both income taxes and a 10% tax penalty on the distribution.

Although individual retirement accounts (IRAs) allow penalty-free early withdrawals for qualified first-time homebuyers and qualified higher education expenses, that is not true for 401(k) plans.

That said, if an employee leaves a company during or after the year they turn 55, they can start taking distributions from their 401(k) account without paying taxes or early withdrawal penalties.

Can you take out a loan or hardship withdrawal from your plan assets? Many plans do allow that up to a certain amount, but withdrawing money from a retirement account means you lose out on the compound growth from funds withdrawn. You will also have to pay interest (yes, to yourself) on the loan.

Roth 401(k) Tax Rules

Here are some tax rules for the Roth 401(k).

Your Roth 401(k) Contributions Are Made With After-Tax Income

When it comes to taxes, a Roth 401(k) works the opposite way of a traditional 401(k). Your contributions are post-tax, meaning you pay taxes on the money in the year you contribute.

If you have a Roth 401(k) and your company offers a 401(k) match, that matching contribution will go into a pre-tax account, which would be a traditional 401(k) account. So you would essentially have a Roth 401(k) made up of your own contributions and a traditional 401(k) of your employer’s contributions.

Recommended: How an Employer 401(k) Match Works

Roth 401(k) Contributions Do Not Lower Your Taxable Income

When you have Roth 401(k) contributions automatically deducted from your paycheck, your full paycheck amount will be taxed, and then money will be transferred to your Roth 401(k).

For instance, if you’re making $50,000 and contributing 10% to a Roth 401(k), $5,000 will be deposited into your Roth 401(k) annually, but you’ll still be taxed on the full $50,000.

Roth 401(k) Withdrawals Are Tax-Free

When you take money from your Roth 401(k) in retirement, the distributions are tax-free, including your contributions and any earnings that have accrued (as long as you’ve had the account for at least five years).

No matter what your tax bracket is in retirement, qualified withdrawals from your Roth 401(k) are not counted as taxable income.

It can also be helpful to know that, like a Roth IRA, a Roth 401(k) no longer requires participants to start taking required minimum distributions at age 73.

There Are Limits on Roth 401(k) Withdrawals

In order for a withdrawal from a Roth 401(k) to count as a qualified distribution — meaning, it won’t be taxed — an employee must be age 59 ½ or older and have held the account for at least five years.

If you make a withdrawal before this point — even if you’re age 61 but have only held the account since age 58 — the withdrawal would be considered an early, or unqualified, withdrawal. If this happens, you would owe taxes on any earnings you withdraw and could pay a 10% penalty.

Early withdrawals are prorated according to the ratio of contributions to earnings in the account. For instance, if your Roth 401(k) had $100,000 in it, made up of $70,000 in contributions and $30,000 in earnings, your early withdrawals would be made up of 70% contributions and 30% earnings. Hence, you would owe taxes and potentially penalties on 30% of your early withdrawal.

If the plan allows it, you can take a loan from your Roth 401(k), just like a traditional 401(k), and the same rules and limits apply to how much you can borrow. Any Roth 401(k) loan amount will be combined with outstanding loans from that plan or any other plan your employer maintains to determine your loan limits.

You Can Roll Roth 401(k) Money Into a Roth IRA

Money in a Roth 401(k) account can be rolled into a Roth IRA. Like an employer-sponsored Roth 401(k), a Roth IRA is funded with after-tax dollars.

It’s important to note, however, that there’s also a five-year rule for Roth IRAs: Earnings cannot be withdrawn tax- and penalty-free from a Roth IRA until five years after the account’s first contribution. If you roll a Roth 401(k) into a new Roth IRA, the five-year clock starts over at that time.

Do You Have to Pay Taxes on a 401(k) Rollover?

If you do a direct rollover of your 401(k) into an IRA or another eligible retirement account, you generally won’t have to pay taxes on the rollover. However, if you receive the funds from your 401(k) and then roll them over yourself within 60 days, you may have to pay taxes on the amount rolled over, as the IRS will treat it as a distribution from the 401(k).

Recommended: How to Roll Over Your 401(k)

Do You Have to Pay 401(k) Taxes after 59 ½?

If you have a traditional 401(k), you will generally have to pay taxes on withdrawals after age 59 ½. This is because the money you contributed to the 401(k) was not taxed when you earned it, so it’s considered income when you withdraw it in retirement.

However, if you have a Roth 401(k), you can withdraw your contributions and earnings tax-free in retirement as long as you meet certain requirements, such as being at least 59 ½ and having had the account for at least five years.

Do You Pay 401(k) Taxes on Employer Contributions?

The taxation of employer contributions to a 401(k) depends on whether the account is a traditional or Roth 401(k).

In the case of traditional 401(k) contributions, the employer contributions are not included in your taxable income for the year they are made, but you will pay taxes on them when you withdraw the funds from the 401(k) in retirement.

In the case of Roth contributions, the employer contributions are not included in a post-tax Roth 401(k) but rather in a pre-tax traditional 401(k) account. So, you do not pay taxes on the employer contributions in a Roth 401(k), but you do pay taxes on withdrawals.

How Can I Avoid 401(k) Taxes on My Withdrawal?

The only way to avoid taxes on 401(k) withdrawals is to take advantage of a Roth 401(k), as noted above. With a Roth 401(k), your contributions are made post-tax, but withdrawals are tax-free if you meet certain criteria to avoid the penalties mentioned above.

However, even if you have to pay taxes on your 401(k) withdrawals, you can take the following steps to minimize your taxes.

Consider Your Tax Bracket

Contributing to a traditional 401(k) is essentially a bet that you’ll be in a lower tax bracket in retirement — you’re choosing to forgo taxes now and pay taxes later.

Contributing to a Roth 401(k) takes the opposite approach: Pay taxes now, so you don’t have to pay taxes later. The best approach for you will depend on your income, your tax situation, and your future tax treatment expectations.

Strategize Your Account Mix

Having savings in different accounts — both pre-tax and post-tax — may offer more flexibility in retirement.

For instance, if you need to make a large purchase, such as a vacation home or a car, it may be helpful to be able to pull the income from a source that doesn’t trigger a taxable event. This might mean a retirement strategy that includes a traditional 401(k), a Roth IRA, and a taxable brokerage account.

Decide Where To Live

Eight U.S. states don’t charge individual income tax at all: Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington, and Wyoming. And New Hampshire only taxes interest and dividend income.

This can affect your tax planning if you live in a tax-free state now or intend to live in a tax-free state in retirement.

The Takeaway

Saving for retirement is one of the best ways to prepare for a secure future. And understanding the tax rules for 401(k) withdrawals and contributions is essential for effective retirement planning. By educating yourself on the rules and regulations surrounding 401(k) taxes, you can optimize your retirement savings and minimize your tax burden.

Another strategy to help stay on top of your retirement savings is to roll over a previous 401(k) to a rollover IRA. Then you can manage your money in one place.

SoFi makes the rollover process seamless. The process is automated so there’s no need to watch the mail for your 401(k) check — and there are no rollover fees or taxes.

Easily manage your retirement savings with a SoFi IRA.

FAQ

Do you get taxed on your 401(k)?

You either pay taxes on your 401(k) contributions — in the case of a Roth 401(k) — or on your traditional 401(k) withdrawals in retirement.

When can you withdraw from 401(k) tax free?

You can withdraw from a Roth 401(k) tax-free if you have had the account for at least five years and are over age 59 ½. With a traditional 401(k), withdrawals are generally subject to income tax.

How can I avoid paying taxes on my 401(k)?

You never truly avoid paying taxes on a 401(k), as you either have to pay taxes on contributions or withdrawals, depending on the type of 401(k) account. By contributing to a Roth 401(k) instead of a traditional 401(k), you can withdraw your contributions and earnings tax-free in retirement.

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Feb

2026

IRA Tax Deduction Rules

By Pam O’Brien | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

Table of Contents

What Is a Tax Deduction?
Putting the IRA Tax Deduction to Use
Understanding Tax-Deferred Accounts
What About Roth IRAs and Taxes?
Deduction and Contribution Limits
Investing for Retirement

Broadly speaking, individual retirement accounts, or IRAs, offer some sort of tax benefit — either during the year that contributions are made or when distributions take place after retiring. But not all retirement accounts are taxed the same.

With a traditional IRA, it’s possible for certain individuals to both invest for their future and reduce their present tax liability. For tax year 2025, the maximum IRA deduction is $7,000 for people younger than 50, and $8,000 for those 50 and older. For tax year 2026, the maximum IRA deduction is $7,500 for people younger than 50, and $8,600 for those 50 and older.

To maximize deductions in a given year, the first step is understanding how IRA tax deductions work. A good place to start is learning the differences between common retirement accounts — and their taxation. And since each financial situation is different, an individual may also want to speak with a tax professional about their specific situation.

Read on to learn more about IRA tax deductions, including how both traditional and Roth IRA accounts are taxed in the U.S.

What Is a Tax Deduction?

First, here’s a quick refresher on tax deductions for income taxes — the tax owed/paid on a person’s paycheck, bonuses, tips, and any other wages earned through work. “Taxable income” also includes interest earned on bank accounts and some types of investments.

Tax deductions are subtracted from a person’s total taxable income. After deductions, taxes are paid on the amount of taxable income that remains. Eligible deductions can allow qualifying individuals to reduce their overall tax liability to the Internal Revenue Service (IRS).

For example, let’s say Person X earns $70,000 per year. They qualify for a total of $10,000 in income tax deductions. When calculating their income tax liability, the allowable deductions would be subtracted from their income — leaving $60,000 in taxable income. Person X then would need to pay income taxes on the remaining $60,000 — not the $70,000 in income that they originally earned.

For the 2025 and 2026 tax years, 22% is the highest federal income tax rate for a person earning $70,000, according to the IRS. By deducting $10,000 from their taxable income, they are able to lower their federal total tax bill by $2,200, which is 22% of the $10,000 deduction. (There may be additional state income tax deductions.)

A tax deduction is not the same as a tax credit. Tax credits provide a dollar-for-dollar reduction on a person’s actual tax bill — not their taxable income. For example, a $3,000 tax credit would eliminate $3,000 in taxes owed.

Putting the IRA Tax Deduction to Use

Traditional IRA tax deductions are quite simple. If a qualifying individual under age 50 contributes the maximum allowed to a traditional IRA in a year — $7,000 for the 2025 tax year and $7,500 for the 2026 tax year — they can deduct the full amount of their contribution from their taxable income.

That said, you are not eligible to claim your IRA deduction if you are:

• Single and covered by a workplace retirement account and your modified adjusted gross income (MAGI) is $89,000 or more for tax year 2025 ($91,000 or more for tax year 2026)

• Married filing jointly and covered by a work 401(k) plan and your MAGI is $146,000 or more for tax year 2025 ($149,00 or more for tax year 2026).

• Married, only your spouse is covered by a work 401(k) plan, and your MAGI is $246,000 or more in 2025 ($252,000 or more in tax year 2026).

401(k), 403(b), and other non-Roth workplace retirement plans work in a similar way (when it comes to a Roth IRA vs a traditional IRA, contributions to a Roth IRAs are not tax deductible).

For the 2025 tax year, the contribution maximum for a 401(k) is $23,500 with an additional $7,500 catch-up contribution for employees 50 and older. For tax year 2026, the contribution maximum is $24,500 with an additional $8,000 catch-up contribution for employees 50 and older. Also for both 2025 and 2026, those aged 60 to 63 may contribute up to an additional $11,250 instead of $7,500 in 2025 and $8,000 in 2026, thanks to SECURE 2.0.

Thus, a person under 50 who contributes the full amount in 2025 could then deduct $23,500 from their taxable income ($24,500 in 2026), potentially lowering their tax bracket.

One common source of confusion: The tax deduction for an IRA will reduce the amount a person owes in federal and state income taxes, but will not circumvent payroll taxes, which fund Social Security and Medicare. Also known as Federal Insurance Contributions Act (FICA) taxes, these are assessed on a person’s gross income. Both the employer and the employee pay FICA taxes at a rate of 7.65% each.

Understanding Tax-Deferred Accounts

Traditional IRAs, 401(k) plans, and other non-Roth retirement accounts are deemed “tax-deferred.” Money that enters into one of these accounts is deducted from an eligible person’s total income tax bill. In this way, qualifying individuals do not pay income taxes on that invested income until later.

Because these taxes are simply deferred until a later time, the money in the account is usually taxed when it’s withdrawn.

Here’s an example of this: Having reached retirement age, a person chooses to withdraw $30,000 per year from a traditional IRA plan. As far as the IRS is concerned, this withdrawal is taxable income. The traditional IRA money will be taxed as the income.

So, what’s the point of deferring taxes? Generally speaking, people may be in a higher marginal tax bracket as a working person than they are as a retired person. Therefore, the idea is to defer taxes until a time when an individual may pay proportionally less in taxes.

Tax Brackets and IRA Deductions

Income tax brackets can work in a stair-step fashion. Each bracket reveals what a person owes at that level of income. Still, when a person is “in” a certain tax bracket, they do not pay that tax rate on their entire income.

For instance, in 2025, single filers pay a 12% federal income tax rate for the income earned between $11,926 and $48,475. Then, the tax rate “steps up,” and they pay a 22% tax on the income earned that falls in the range of $48,476 and $103,350. In 2026, single filers pay a 12% federal income tax rate for the income earned between $12,401 and $50,400, and they pay 22% tax on income between $50,401 and $105,700. Even if a person is a high-earner and “in” the 37% tax bracket, they still pay the lower rates on their lower levels of income.

401(k) Withdrawals and Taxation

Now, let’s compare that with the taxation on a $30,000 withdrawal from a 401(k). Assuming 2025 income tax rates, the withdrawal would be taxed at a 10% rate up to $11,925 and then a 12% rate for the remaining $18,075.

Taxes are assessed at a person’s “effective,” or average, tax rate. This is another reason that some folks prefer to defer their taxes until later, when they can pay a hypothetically lower effective tax rate on their withdrawals, rather than taxes at their highest marginal rate.

But, here’s why it’s not so simple: All of the above assumes that income tax rates remain the same over time. And, income tax rates (and eligible deductions) can change with federal legislation.

Still, plenty of earners opt to reduce their tax bill at their highest rate in the current year — and a tax deduction via an eligible retirement contribution may do just that.

For tax questions about an individual’s specific scenarios, it’s a good idea to consult a tax professional.

What About Roth IRAs and Taxes?

Simply put, there are no tax deductions for Roth retirement accounts. Both Roth IRA and Roth 401(k) account contributions are not tax-deductible.

The trade-off is that Roth money is not taxed when it is withdrawn in retirement, as is the case with tax-deferred accounts like a 401(k) and traditional IRA. In fact, this is the primary difference between Roth and non-Roth retirement accounts. With Roth accounts, taxes are already paid on money that is contributed, whereas income taxes on a non-Roth 401k are deferred until later.

So, then, what are some advantages of a Roth retirement account? All retirement accounts provide an additional type of tax benefit as compared to a non-retirement investment account: There are no taxes on interest or capital gains, which is money earned via the sale of an investment.

CFP® Brian Walsh explains, “With a Roth IRA, you’re going to pay taxes on your money and then you’re going to put after-tax money into the Roth IRA. That money is going to grow without paying any taxes. But when you take it out—ideally that money grew quite a bit—you’re not going to pay any taxes on the withdrawal.”

Someone might choose a Roth over a tax-deferred retirement account because they prefer to pay the income taxes up front, instead of in retirement. For example, imagine a person who earned $30,000 this year. They pay a relatively low income tax rate, so they simply may prefer to pay the income taxes now. That way, the taxes are potentially less of a burden come retirement age.

Not everyone qualifies for a Roth IRA. There are limits to how much a person can earn. For a single filer, the ability to contribute to a Roth IRA for tax year 2025 begins to phase out when a person earns $150,000 or more ($153,000 or more for tax year 2026), and is completely phased out at an income level of $165,000 in 2025 ($168,000 for tax year 2026). For a person that is married and filing jointly, the phase-out begins at $236,000 in 2025 ($242,000 for tax year 2026), ending at $246,000 in 2025 ($252,000 for 2026).

Deduction and Contribution Limits

The maximum amount a person is able to deduct from their taxes by contributing to a retirement account may correspond to an account’s contribution limits.

Here are the maximum contributions for the 2025 tax year:

• Traditional IRA Limits: $7,000 ($8,000 if age 50 or older), deductibility depends on whether the person is covered by a workplace retirement plan

• 401(k): $23,500 (additional $7,500 if age 50 or older; those aged 60 to 63 can contribute up to an extra $11,250 instead of $7,500). Under a new law that went into effect on January 1, 2026 as part of SECURE 2.0, individuals aged 50 and older who earned more than $150,000 in FICA wages in 2025 are required to put their 401(k) catch-up contributions into a Roth 401(k) account. With Roths, individuals pay taxes on contributions upfront, but can make eligible withdrawals tax-free in retirement.

• 403(b): $23,500 (additional $7,500 if age 50 or older; those aged 60 to 63 can contribute up to an extra $11,250 instead of $7,500). As of 2026, those age 50-plus with FICA wages exceeding $150,000 in 2025 are required to put their 403(b) catch-up contributions into a Roth account.

• 457(b): $23,500 (additional $7,500 if age 50 or older; those aged 60 to 63 can contribute up to an extra $11,250 instead of $7,500). As of 2026, those age 50-plus with FICA wages exceeding $150,000 in 2025 are required to put their 457(b) catch-up contributions into a Roth account.

• Thrift Savings Plan (TSP): $23,500 (additional $7,500 if age 50 or older; those aged 60 to 63 can contribute up to an extra $11,250 instead of $7,500)

• SEP IRA: The lower of 25% of an employee’s income, or $70,000

• Simple IRA or 401(K): $16,500 (additional $3,500 if age 50 or older; those aged 60 to 63 can contribute up to an extra $5,250 instead of $3,500, thanks to SECURE 2.0)

Here are the maximum contributions for the 2026 tax year:

• Traditional IRA: $7,500 ($8,600 if age 50 or older), deductibility depends on whether the person is covered by a workplace retirement plan

• 401(k): $24,500 (additional $8,000 if age 50 or older; for 2026, those aged 60 to 63 can contribute up to an extra $11,250 instead of $8,000)

• 403(b): $24,500 (additional $8,000 if age 50 or older; for 2026, those aged 60 to 63 can contribute up to an extra $11,250 instead of $8,000)

• 457(b): $24,500 (additional $8,000 if age 50 or older; for 2026, those aged 60 to 63 can contribute up to an extra $11,250 instead of $8,000)

• Thrift Savings Plan (TSP): $24,500 (additional $8,000 if age 50 or older; for 2026, those aged 60 to 63 can contribute up to an extra $11,250 instead of $8,000)

• SEP IRA: The lower of 25% of an employee’s income, or $72,000

• Simple IRA or 401(K): $17,000 (additional $4,000 if age 50 or older; for 2026, those aged 60 to 63 can contribute up to an extra $5,250 instead of $4,000)

The above lists are only meant as a guide and do not take into account all factors that could impact contribution or deduction limits — such as catch-up contributions. Anyone with questions about what accounts they qualify for should consult a tax professional.

Investing for Retirement

Different types of retirement accounts come with distinct tax benefits and, for eligible investors, IRA tax deductions. Opening a retirement account and contributing to certain tax-deferred accounts may affect how much a person owes in income taxes in a given year. Roth accounts may provide tax-free withdrawals later on.

Prepare for your retirement with an individual retirement account (IRA). It’s easy to get started when you open a traditional or Roth IRA with SoFi. Whether you prefer a hands-on self-directed IRA through SoFi Securities or an automated robo IRA with SoFi Wealth, you can build a portfolio to help support your long-term goals while gaining access to tax-advantaged savings strategies.

Easily manage your retirement savings with a SoFi IRA.

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest is a trade name used by SoFi Wealth LLC and SoFi Securities LLC offering investment products and services. Robo investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser. Brokerage and self-directed investing products offered through SoFi Securities LLC, Member FINRA/SIPC.

For disclosures on SoFi Invest platforms visit SoFi.com/legal. For a full listing of the fees associated with Sofi Invest please view our fee schedule.

Disclaimer: The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third Party Trademarks: Certified Financial Planner Board of Standards Center for Financial Planning, Inc. owns and licenses the certification marks CFP®, CERTIFIED FINANCIAL PLANNER®

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Jan

2026

An up-close image of the hand of a woman who is holding a pen and using a calculator to work on her 401(k) plan.

What is a 401(k) Profit Sharing Plan?

By Anna Davies | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off

Like a traditional 401(k) plan, a profit-sharing 401(k) plan is an employee benefit that can provide a vehicle for tax-deferred retirement savings. But the biggest difference between an employer-sponsored 401(k) and a profit-sharing 401(k) plan is that in a profit share plan, employers have control over how much money — if any — they contribute to the employee’s account from year to year.

Here’s what employees should know about a profit-sharing 401(k) retirement plan.

Table of Contents

How Does 401(k) Profit Sharing Work?
Pros and Cons of 401(k) Profit Sharing
Withdrawals and Taxes on 401(k) Profit Share Plans
FAQ

Key Points

• Profit-sharing 401(k) plans provide tax-deferred retirement savings with optional employer contributions based on company profits.

• Employees can contribute up to $23,500 in 2025, and up to $24,500 in 2026, plus catch-up contributions for those aged 50 and up.

• Employer contributions are flexible, potentially helping to reduce tax liability.

• Types of profit-shating 401(k)s include Pro-Rata, New Comparability, Age-Weighted, and Integrated plans, each with unique distribution methods.

• For some employees, profit-sharing 401(k) plans may be more lucrative than a traditional 401(k) .

Aside from the way employer contributions are handled, a profit-sharing 401(k) plan works similarly to a traditional employer-sponsored 401(k). Under a 401(k) profit share plan, as with a regular 401(k) plan, an employee can allocate a portion of pre-tax income into a 401(k) account, up to a maximum of $23,500 in 2025 and $24,500 in 2026. Those 50 and older can contribute an additional $7,500 in catch-up contributions, in 2025 for a total of up to $31,000, and an additional $8,000 in catch-up contributions in 2026 for a total of $32,500. In both 2025 and 2026, those aged 60 to 63 can make special catch-contributions of up to $11,250 (instead of $7,500 and $8,000 respectively), for a total of $34,750 in 2025 and $35,750 in 2026, thanks to SECURE 2.0.

At year’s end, employers can choose to contribute part of their profits to employees’ plans, tax-deferred. As with a traditional 401(k), maximum total contributions to an account must be the lesser of 100% of the employee’s salary or $70,000 in 2025 and $72,000 in 2026, per the IRS. In 2025, the limit is $77,500 for those 50 and up, and $81,250 for those aged 60 to 63, because of SECURE 2.0. In 2026, the limit is $80,000 for those 50 and older, and $83,250 for those aged 60 to 63.

There are several types of 401(k) profit-sharing setups employers can choose from. Each of these distributes funds in slightly different ways.

Pro-Rata Plans

In this common type of plan, all employees receive employer contributions at the same rate. In other words, the employer can make the decision to contribute 3% (or any percentage they choose) of an employee’s compensation as an employer contribution. The amount an employer can contribute is capped at 25% of total employee compensation paid to participants in the plan.

New Comparability 401(k) Profit Sharing

In this plan, employers can group employees when outlining a contribution plan. For example, executives could receive a certain percentage of their compensation as contribution, while other employees could receive a different percentage. This might be an option for a small business with several owners that wish to be compensated through a profit-sharing plan.

Age-Weighted Plans

This plan calculates percentage contributions based on retirement age. In other words, older employees will receive a greater percentage of their salary than younger employees, by birth date. This can be a way for employers to retain talent over time.

Integrated Profit Sharing

This type of plan uses Social Security (SS) taxable income levels to calculate the amount the employer shares with employees. Because Social Security benefits are only paid on compensation below a certain threshold, this method allows employers to make up for lost SS compensation to high earners, by giving them a larger cut of the profit sharing.

There are benefits and drawbacks for both employers and employees who participate in a profit-sharing 401(k) plan.

Employer Pro: Flexibility of Employer Contributions

Flexibility with plan contribution amounts is one reason profit-share plans are popular with employers. An employer can set aside a portion of their pre-tax earnings to share with employees at the end of the year. If the business doesn’t do well, they may not allocate any dollars. But if the business does do well, they can allow employees to benefit from the additional profits.

Employer Pro: Flexibility in Distributions

Profit sharing also gives employers flexibility in how they wish to distribute funds among employees, using the Pro-Rata, New Comparability, Age-Weighted, or Integrated profit sharing strategy.

Employer Pro: Lower Tax Liability

Another advantage of profit-share plans is that they may allow employers to lower tax liability during profitable years. A traditional employer contribution to a 401(k) does not have the flexibility of changing the contribution based on profits, so this strategy may help a company maintain financial liquidity during lean years and lower tax liability during profitable years.

Employee Pro: Larger Contribution Potential

Some employees might appreciate that their employer 401(k) contribution is tied to profits, as the compensation might feel like a more direct reflection of the hard work they and others put into the company. When the company succeeds, they feel the love in their contribution amounts.

Additionally, depending on the type of distribution strategy the employer utilizes, certain employees may find a profit-sharing 401(k) plan to be more lucrative than a traditional 401(k) plan. For example, an executive in a company that follows the New Compatibility approach might be pleased with the larger percentage of profits shared, versus more junior staffers.

Employee Con: Inconsistent Contributions

While employers may consider the flexibility in contributions from year to year a positive, it’s possible that employees might find that same attribute of profit-sharing 401(k) plans to be a negative. The unpredictability of profit share plans can be disconcerting to some employees who may have previously worked for an employer who had a traditional, consistent employer 401(k) match set up.

Employee/Employer Pro: Solo 401(k) Contributions

A profit-share strategy can be one way solo business owners can maximize their retirement savings. Once a solo 401(k) is set up with profit sharing, a business owner can put up to $23,500 a year into the account, plus up to 25% of net earnings, up to a total of $70,000 in 2025, and up to $24,500 in 2026, plus up to 25% net of earnings, up to a total of $72,000. This retirement savings vehicle also provides flexibility from year to year, depending on profits.

💡 Quick Tip: The advantage of opening a Roth IRA and a tax-deferred account like a 401(k) or traditional IRA is that by the time you retire, you’ll have tax-free income from your Roth, and taxable income from the tax-deferred account. This can help with tax planning.

A 401(k) with a generous profit-share plan can help you build your retirement nest egg. But what about when you’re ready to take out distributions? A 401(k) withdrawal will have penalties if you withdraw funds before you’re 59 ½ (barring certain circumstances laid out by the IRS) but the money will still be taxable income once you reach retirement age.

Additionally, like traditional 401(k) plans, a profit-sharing 401(k) plan has required minimum distribution requirements (RMDs) once an account holder turns 73.

Investors who anticipate being in a high tax bracket during their retirement years might choose to consider different strategies to lower their tax liability in the future. For some, this could include converting the 401(k) into a Roth IRA when doing a rollover. To do this, they first have to roll over the 401(k) to a traditional IRA. This is sometimes called a “backdoor Roth IRA” because rolling over the 401(k) generally does not subject an investor to the income limitations that cap Roth contributions.

An investor would need to pay taxes on the money they convert into a Roth IRA, but distributions in retirement years would not be taxed the way they would have if they were kept in a 401(k). In general, any 401(k) participant who qualifies for a Roth IRA can do this, but the additional funds in a 401(k) profit-share account could potentially make these moves that much more impactful in the future.

The Takeaway

A 401(k) profit-sharing plan allows employees to contribute pre-tax dollars to their retirement savings, as well as benefit from their employer’s profitability. But because profit-share plans can take multiple forms, it’s important for employees to understand what their employer is offering. That way, employees can work to create a robust retirement savings strategy that makes sense for them.

Another step that could also help you manage your retirement savings is doing a 401(k) rollover, where you move funds from an old account to a rollover IRA. You may want to consider this option if you have a 401(k) from a previous employer, for instance.

Help grow your nest egg with a SoFi IRA.

🛈 While SoFi does not offer 401(k) plans at this time, we do offer individual retirement accounts (IRAs)..

FAQ

Can I cash out my profit-sharing?

You can cash out your profit-sharing 401(k) without penalty once you reach age 59 ½. Withdrawals taken before that time are subject to penalty. However, if you leave the company, you can roll over the profit-sharing 401(k) into an IRA without penalty as long as you follow the IRS rollover rules.

How much tax do you pay on profit-sharing withdrawal?

You pay regular income tax on profit-sharing withdrawals. Depending on what tax bracket you’re in, you might pay anywhere from 10% to 37%.

Is profit-sharing 100% vested?

Depending on your company, your profit-sharing contributions may be 100% vested right away, or they may follow a vesting schedule that requires you to work for a certain number of years before you have full ownership of your contributions.

Can I roll my profit-sharing plan into an IRA?

You can roll over your profit-sharing plan into an IRA when you leave your company. You can choose to have the funds directly transferred from your profit-sharing plan to an IRA, or you can have the money paid to you and then deposit the funds into an IRA yourself. Just be sure to complete the rollover within 60 days to avoid being taxed.

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Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

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SOIN-Q425-024

Jan

2026

What Is Full Retirement Age for Social Security?

By Samuel Becker | invest, Preparing for Retirement | Comments Off

In the United States, full retirement age actually varies depending on the year you were born. But if you were born in 1960 or later, your full retirement age is 67. Full retirement age (FRA) is the age at which you become eligible to receive your full retirement, or Social Security benefits. FRA is a key milestone in life and a crucial component of the U.S. Social Security system.

It impacts how much you’ll receive monthly, when you can claim Social Security in full, and how much your delayed retirement credits will increase over time. Your Social Security benefits will, likely, also have an effect on the decisions you make around your strategies for saving and investing for retirement, too.

Key Points

• Full retirement age varies depending on birth year. It ranges from 66 for those born from 1943 to 1954 to 67 for those born in 1960 or later.

• You can claim your Social Security benefits before FRA (as early as age 62), but your benefit will be permanently reduced by up to 30%.

• You can delay your retirement to increase your monthly benefit by 8% for each year of delay (up until age 70).

• You can still work after you’ve started collecting Social Security retirement benefits. But if you’re younger than FRA and earn above certain limits, your benefits may be reduced. There’s no earnings limit once you reach FRA.

What is Full Retirement Age?

Full retirement age (FRA) is the age at which you become eligible to receive 100% of your monthly primary insurance amount (PIA), which is the starting point for calculating your Social Security retirement benefit.

The PIA is the base monthly payment you should receive once you retire. It’s based on your past earnings and adjusted for inflation. In general, here’s how it works:

• If you retire once you’ve reached your exact FRA, you’ll receive 100% of your PIA.

• Retiring earlier will reduce your monthly Social Security retirement benefit to a smaller percentage of your PIA (but no less than 70% of it — more on this later).

• Conversely, if you delay retirement beyond your FRA, your Social Security retirement benefit will be a higher percentage of your PIA.

The bottom line is that because your Social Security retirement benefit is permanently set based on when you retire relative to your FRA, knowing your FRA is extremely important. Even if you’ve done some planning and opened an online IRA or other retirement account.

And, as noted, having an idea of what you can or should expect from your Social Security benefits can have a profound impact on your strategies as they relate to investing for retirement. Since many people may hope to supplement their Social Security income with their own savings and investment income, it can change the calculus in terms of when you’re able to retire.

Determine Your Full Retirement Age

As mentioned, FRA varies depending on your birth year. If you were born in 1960 or later, your FRA is 67. For those born before 1960, FRA decreases by two months for each year earlier, down to 66 for those born between 1943 and 1954.

Here’s a table to clarify the math:

Social Security Retirement Age Chart
Year of Birth	Full Retirement Age	Months between 62 and FRA	Maximum PIA reduction if you retire at 62	Months between 70 and FRA	Maximum PIA increase if you retire at 70
1943 to 1954	66	48	-25%	48	+32%
1955	66 and 2 months	50	-25.83%	46	+30.67%
1956	66 and 4 months	52	-25.67%	44	+29.33%
1957	66 and 6 months	54	-27.5%	42	+28%
1958	66 and 8 months	56	-28.33%	40	+26.67%
1959	66 and 10 months	58	-29.17%	38	+25.33%
1960 and later	67	60	-30%	36	+24%
Source: Social Security Administration

Why Full Retirement Age Matters

FRA is a key factor in deciding when to start collecting Social Security benefits. Claim them too early, and your monthly check will be permanently reduced. Wait too long, and you won’t get any additional benefits. So, if you’re trying to figure out how to retire early, this could become a key piece of information in your calculations.

As mentioned, you’ll receive 100% of your PIA if you retire exactly at your FRA. You can apply for Social Security and start collecting earlier, but no earlier than age 62. And your benefits will be reduced for each month you begin early. How much? Here’s a recap:

• 5/9 of 1% for each month up to 36 months before your FRA

• 5/12 of 1% for each month over 36 months before your FRA

For example, if your FRA is 67, and you retire at 65 (i.e., 24 months earlier), your benefits will be reduced by:

24 months x 5/9 x 1% = 13.33%

That means your monthly benefit will be (100 – 13.33)% = 86.67% of your PIA.

If that sounds too complicated, you can check the retirement age calculator on the Social Security Administration (SSA) website.

But that’s not all. If you retire earlier than 65, the age of eligibility for Medicare, you may need to pay for your own healthcare coverage until you turn 65. If your previous job included medical benefits and you retire before becoming eligible for Medicare, you may have to pay a monthly premium to maintain coverage during this interim period. This could increase your expected expenses in retirement.

Regardless, it may be a good idea to enroll in Medicare when you turn 65 or risk paying a late enrollment penalty when you do sign up. Make sure to factor this into your calculations.

If you retire later instead, delaying your retirement beyond your FRA will earn you more money in the form of delayed retirement credits (DRCs), which increase your monthly benefit. If you were born in 1943 or later, you’ll earn a 2/3 of 1% (roughly 0.67%) increase for each month after FRA, equating to an 8% increase per year. You can keep earning these benefits only up until age 70, so there’s no financial reason to wait beyond this age.

For example, if your FRA is 66 and you wait until 68 to retire, you will earn an increase of:

24 months x 2/3 x 1% = 16%

That means your monthly benefit will be (100 + 16)% = 116% of your PIA.

When to Start Collecting Social Security

Given that the average retirement age in the U.S. is 65 for men and 62 for women, many Americans do choose to retire before reaching full retirement age. But there’s no one-size-fits-all answer for when it’s the right time to choose to retire and start collecting Social Security benefits. It depends on several factors.

First, you should honestly assess your health situation.

• Is your life expectancy short or long?

• Are you in good enough health to keep working and earning?

• Do you have persistent health issues that require the best possible health insurance coverage?

• Do you have the means to pay for private insurance if you retire before you’re eligible for Medicare?

Your answers to these types of questions will steer you in the direction.

Additionally, if you’re the higher-earning spouse, your surviving partner might continue receiving your benefits for many years after your passing. In that case, it could make sense to wait to maximize their future benefits — especially if they’re younger than you.

Other considerations like immediate income needs, if you have money in a Roth IRA, the potential for reduced expenses in retirement, or foreseeable job instability (such as concerns about your employer’s financial health) might mean early retirement is the right call.

Further, it may be worthwhile to investigate how a traditional IRA or other type of retirement plan could affect your plans as well.

Early Versus Late Retirement

Here’s a quick recap of the pros and cons of waiting to claim benefits until after FRA versus before FRA:

Claiming Benefits Before FRA
Pros	Cons
Access to income sooner	Permanently reduced monthly benefits
Better if your life expectancy is shorter or you suffer from health issues	Reduced spousal and survivor benefits
Useful if your job stability is uncertain	Might need to pay for private health insurance until Medicare eligibility at 65
Claiming Benefits After FRA
Pros	Cons
Permanently increased monthly benefits	Access to income is delayed
Higher survivor benefits for your spouse	Risky if you have health issues
Potential for higher lifetime income	Can impact your lifestyle or quality of life

Working After Reaching Full Retirement Age

You can keep working and collecting a paycheck after reaching full retirement age. If you keep working after hitting your FRA, your Social Security benefits won’t take a hit. However, if you claim benefits earlier, the government might temporarily withhold some of the benefits until you reach your FRA.

In particular, you might face one of three scenarios:

1. If you’re under FRA for the entire year, you can earn up to $22,400 in 2025 and up to $24,480 in 2026 without any benefit reduction.

2. If you earn more than $23,400 in 2025 and more than $24,480 in 2026, the SSA will deduct $1 from your benefits for every $2 you earn above this limit.

3. In the year you reach FRA, the earnings limit increases to $62,160 for 2025 and $65,160 for 2026. The SSA will deduct $1 from your benefits for every $3 you earn above this limit. Only earnings up to the month before you reach FRA count toward this limit.

This provision is known as the retirement earnings test (RET) and is periodically adjusted to account for inflation.

Once you reach FRA, the SSA will recalculate your benefits to account for the months when benefits were withheld due to excess earnings. So, while you don’t get a lump sum back, you do get higher payments for the rest of your life.

The Takeaway

Choosing the right time to apply for Social Security has a tremendous impact on your retirement strategy. Understanding what your full retirement age is factors heavily into this decision since it essentially defines the timing of your retirement. Whether you claim benefits early, at your FRA, or later will affect the amount of your checks. That will also come into play when seeing how far your savings and investments will take you, when paired with your Social Security benefits.

As you plan for your retirement, consider a savings strategy that can potentially offer you compound growth. SoFi Traditional IRAs or Roth IRAs allow you to invest your way. With investment options like stocks, ETFs, and more, you can invest your way. Save, invest, and watch your money grow as you work toward a secure and comfortable retirement.

FAQ

How does age affect my Social Security benefits?

Your Social Security benefits will be reduced by a percentage if you claim them before your full retirement age (FRA) and increased if you delay claiming them. The earlier you claim before FRA, the greater the reduction, the longer you wait, the higher the increase (up until age 70).

Can I choose to receive Social Security benefits earlier than full retirement age?

Yes, you can start receiving benefits as early as age 62, but the earlier you claim them, the more they will be reduced. Note that this reduction is permanent.

What is the significance of the full retirement age increase?

The increase in FRA means you must work longer to claim 100% of your benefits. For example, people born in 1954 could earn full benefits at age 66, while those born in 1960 or later must wait until age 67 for unreduced benefits.

Photo credit: iStock/JLco – Julia Amaral

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SOIN-Q324-049
CN-Q425-3236452-132

Jan

2026

Safe Harbor 401(k) Plan: What Is It? Is It for You?

By Ashley Kilroy | Growing Wealth, Investing, Preparing for Retirement | Comments Off

Safe harbor 401(k) plans enable companies to avoid the annual IRS testing that comes with traditional 401(k) plans. With a safe harbor 401(k), an employer makes mandatory contributions to all employees’ retirement accounts, and those funds vest immediately.

Often a perk used to attract top talent, safe harbor 401(k) plans are a way for highly compensated employees, like company executives and owners, to save more than a traditional 401(k) plan would normally allow.

Keep reading to learn more about safe harbor rules, why companies use these plans, along with the benefits, drawbacks, and relevant deadlines.

Key Points

• Like a traditional 401(k), a safe harbor 401(k) lets employees deposit tax-deferred funds from their paychecks into a retirement savings account.

• Employers are required to contribute to employees’ safe harbor 401(k) accounts.

• Employer contributions in a safe harbor 401(k) vest immediately. There is no waiting period.

• Highly-paid employees can contribute more to a safe harbor 401(k) than a traditional 40(k).

• Safe harbor 401(k) plans allow companies to skip the annual nondiscrimination regulatory testing required by the IRS for traditional 401(k)s.

What Is a Safe Harbor 401(k) Plan?

A 401(k) safe harbor plan is similar to a traditional 401(k) plan — but with a twist. In both cases, eligible employees can use the plan to contribute pre-tax funds to a retirement account and employers may contribute matching funds.

But with a traditional 401(k) retirement plan, companies must submit to annual nondiscrimination regulatory testing by the IRS to ensure that the company plan doesn’t treat highly compensated employees (HCEs) more favorably than others. HCEs are generally defined as earning at least $160,000 in the 2025 and 2026 tax years, and being in the company’s top 20% in pay, or owning more than 5% of the business. The testing process is complex and can be a burden for some companies.

An alternative is to set up a safe harbor 401(k) plan with a safe harbor match. This allows a company to skip the annual IRS testing — and avoid imposing restrictions on employee saving — by providing the same 401(k) contributions to all employees, regardless of title, salary, or even years spent at the company. And those funds must vest immediately.

This is an important benefit, because in many cases, employer contributions to traditional 401(k) plans vest over time, requiring employees to stay with the company for some years in order to get the full value of the employer match. Often, if you leave before the employer contributions or match have vested, you may forfeit them.

For smaller companies, it may be worth making the extra safe harbor match contributions in order to avoid the time and expense of the IRS’s annual nondiscrimination testing. For larger companies, giving all employees the same percentage contribution could be expensive. But the upside is that highly paid employees can then make much larger 401(k) contributions without running afoul of IRS rules, a real perk for company leaders. In addition, 401(k) safe harbor plans are typically less expensive to set up than traditional plans.

💡 Quick Tip: Look for an online brokerage with low trading commissions as well as no account minimum. Higher fees can cut into investment returns over time.

Traditional 401(k) vs Safe Harbor 401(k) Plans

While safe harbor 401(k)s and traditional 401(k) plans are similar in many ways, there are some important differences that employers should be aware of.

For instance, with traditional 401(k) plans, contributions from highly compensated employees can’t comprise more than 2% of the average of all other employee contributions, in addition to other restrictions. However, with safe harbor 401(k) plans, those limits don’t apply.

Comparing Plan Features and Benefits

Here is a side-by-side comparison of a safe harbor 401(k) vs. a traditional 401(k)

Safe Harbor 401(k)	Traditional 401(k)
Employer contributions are required.	Employer contributions are optional.
Employer contributions are vested immediately.	Employer contributions may vest over time.
Highly-paid employees can contribute up to the $23,500 maximum in tax year 2025 and up to $24,500 in 2026.	Highly-paid employees can be limited in how much they can contribute.
Companies do not have to do annual nondiscrimination testing.	Companies must do annual nondiscrimination testing.

Choosing the Right Plan for Your Business

A safe harbor plan may be beneficial for some smaller companies that can’t afford the expense of nondiscrimination testing. In addition, the plan is simpler with less administrative tasks.

A company might also choose a safe harbor 401(k) if it has some key high-earning employees that make up a large share of the workforce.

However, if your company is able to easily manage the nondiscrimination testing process, you may want to opt for a traditional 401(k). A traditional 401(k) could also be a good option for business owners who want to try to retain employees over the long-term. They could set up a vesting schedule for employer contributions that requires employees to be with the company for three years before becoming fully vested, for instance.

Setting Up a Safe Harbor 401(k) Plan

For employers interested in using a safe harbor 401(k), there are some general rules and guidelines they will need to follow.

Requirements, Contribution Formulas, and Deadlines

To fulfill the safe harbor 401(k) requirements, the employer must make qualifying 401(k) contributions (a.k.a. the safe harbor match) that vest immediately. The company contributes to employees’ retirement accounts in one of three ways:

• Non-elective: The company contributes the equivalent of 3% of each employee’s annual salary to a company 401(k) plan, regardless of whether the employee contributes.

• Basic: The company offers 100% matching for the first 3% of an employee’s 401(k) plan contributions, plus a 50% match for up to 5% of an employee’s contributions.

• Enhanced: The company offers a 100% company match for all employee 401(k) contributions, up to 4% of a staffer’s annual salary.

Companies that opt for a safe harbor 401(k) plan have to adhere to strict compliance filing deadlines. These are the dates worth knowing.

October 1: That’s the deadline for filing for a safe harbor 401(k) for the current calendar year. This deadline meets the government criteria of a company needing to have a safe harbor 401(k) in operation for at least three months in a 12 month period, for the first year operating a safe harbor plan.

December 1: By this date, all companies — whether they’re rolling out a brand new safe harbor plan or are administering an existing one — must issue a formal notice to employees that a safe harbor 401(k) will be offered to company staffers.

January 1: The date that all safe harbor 401(k) plans are activated. For companies that currently have no 401(k) plan at all, they can roll out either a traditional 401(k) plan or a safe harbor 401(k) plan at any point in the year, for that calendar year.

Advantages of Implementing a Safe Harbor 401(k) Plan

Safe harbor 401(k)s offer some distinct upsides for business owners and employees alike.

Benefits for Employers and Employees

By creating a safe harbor 401(k) plan, a business owner can potentially attract and maintain highly skilled employees. Employees are attracted to higher retirement plan contributions and the ability to optimize retirement plan contribution amounts, ensuring more money for long-term retirement savings.

Plus, a safe harbor 401(k) plan can also help business owners save money on the compliance end of the spectrum. For example, companies save on regulatory costs by avoiding the costs of preparing for a nondiscrimination test (and the staff hours and training that goes with it).

There are some additional upsides to offering a safe harbor 401(k) retirement plan, for higher paid employees and regular staff too.

• Playing catch up. If a company owner, or high-level managers, historically haven’t stowed enough money away in a company retirement plan, a safe harbor 401(k) plan can help them catch up. The same may be true, although to a lesser degree, for regular employees.

• The spread of profit. Suppose a company has a steady and robust revenue stream and is managed efficiently. In that case, company owners may feel comfortable “spreading the wealth” with not only high-profile talent but rank-and-file employees, too.

• Encourage retirement savings. If a company is seeing weak contribution activity from its rank-and-file employees, it may feel more comfortable going the safe harbor route and at least guaranteeing minimum 401(k) contributions to employees while rewarding higher-value employees with more lucrative 401(k) plan contributions.

Disadvantages of Safe Harbor Plans

Safe harbor 401(k) plans have their downsides, too. Here are some drawbacks to consider.

Financial Implications for Employers

The matching contribution requirements for safe harbor 401(k)s can add up to a hefty expense, depending on employee salaries. And because employees are vested immediately, there’s no incentive to stay with the company for a certain period.

In addition, if a company introduces a safe harbor 401(k) plan, it must commit to it for one calendar year, no matter how the plan is performing internally. Even after a year, 401(k) plan providers (which administer and manage the retirement plans) may charge a termination fee if a company decides to pull the plug on its safe harbor plan after one year.

Safe Harbor 401(k) Contribution Limits and Match Types

There are some different rules for employer contribution limits and matching with a safe harbor 401(k) vs. a traditional 401(k).

Understanding Contribution Limits

Just like traditional 401(k) plans, the maximum employee contribution limit for a safe harbor plan is $23,500 in 2025 and $24,500 in 2026. If you are over 50, you would be eligible for an additional $7,500 catch-up contribution in 2025 and $8,000 in 2026, if your plan allows it.

For both 2025 and 2026, those aged 60 to 63 may contribute an additional $11,250 (instead of $7,500 and $8,000) to their 401(k) plan.

But in a safe harbor plan, a company owner can reserve the maximum $23,500 in 2025 for their annual plan contribution, $24,500 for 2026, and also boost contribution payments to valued team members up to an individual profit-sharing maximum amount of 100% of their compensation, or $70,000 (77,500 for those over age 50 with the standard catch-up and $81,250 with the SECURE 2.0 catch-up for those 60 to 63) — whichever is less — for 2025.

For 2026, the total allowed is 100% of compensation or $72,000, whichever is less. (For those 50 and up the cap is $80,000 with the standard catch-up, and $83,250 with the SECURE 2.0 catch-up for those ages 60 to 63 only.) Employer rules about catch-up provisions may vary, so be sure to ask.

Regular employees are allowed the standard maximum contribution limit of $23,500 in 2025, $24,500 in 2026; plus anyone over age 50 can contribute an extra “catch-up” amount of $7,500 in 2025 and $8,000 in 2026. Those are the same maximum contribution ceilings as regular 401(k) plans. For 2025 and 2026, those aged 60 to 63 may contribute an additional $11,250 instead of $7,500 and $8,000 respectively, thanks to SECURE 2.0.

Different Types of Employer Matching Contributions

As mentioned earlier, with a safe harbor 401(k), an employer must make qualifying 401(k) contributions that vest immediately in one of these ways:

• Non-elective: The company contributes the equivalent of 3% of each employee’s annual salary to a company 401(k) plan.

• Basic: The company matches 100% for the first 3% of an employee’s 401(k) plan contributions, plus a 50% match for the following 2% of their contributions.

• Enhanced: The company provides a 100% company match for all employee 401(k) contributions, up to 4% of a staffer’s annual salary.

IRS Compliance Testing and Safe Harbor Provisions

To help understand the benefit of safe harbor plans, it helps to see what employers with traditional 401(k) plans face in terms of following IRS rules and submitting to the annual nondiscrimination tests.

Navigating Non-Discrimination Testing

Each year, a company must conduct Actual Deferral Percentage (ADP), Actual Contribution Percentage (ACP), and Top Heavy tests to confirm there is no compensation discrimination.

If the company fails one of the tests, it could mean considerable administrative hassle, plus the expense of making corrections, and potentially even refunding 401(k) contributions.

Before explaining the details of each test, here’s a refresher on how the IRS defines highly compensated employees (HCEs) and non-highly compensated employees (NHCEs).

To be an HCE:

• The employee must own more than 5% of the company at any time during the current or preceding year (directly or through family attribution).

• The employee is paid over $160,000 in compensation from the employer for both 2025 and 2026. The plan can limit these employees to the top 20% of employees who make the most money.

Employees who don’t fit these criteria are considered non-highly compensated. The nondiscrimination tests are designed to assess whether top employees are saving substantially more than the rank-and-file staffers.

• The Actual Deferral Percentage (ADP) test measures how much income highly paid employees contribute to their 401(k), versus staff employees.

• The Actual Contribution Percentage (ACP) test compares employer retirement contributions to HCEs versus the contributions to everyone else.

According to the IRS, the terms of the ADP test — which compares the amounts different employees are saving in their 401(k)s — are met if the ADP for highly compensated employees (HCE) doesn’t exceed the greater of:

• 125% of the deferral percentage for ordinary, i.e., non-highly compensated employees (NHCEs)

Or the lesser of:

• 200% of the deferral percentage for the NHCEs

• or the deferral percentage for the NHCEs plus 2%.

The ACP test is met if the deferral percentage for highly compensated employees doesn’t exceed the greater of:

• 125% of the deferral percentage for the NHCEs,

Or the lesser of:

• 200% of the deferral percentage for the group of NHCEs

• or the deferral percentage for the NHCEs plus 2%.

Last, the top-heavy test measures the value of the assets in all company 401(k) accounts, total. If the 401(k) balances of “key employees” account for more than 60% of total plan assets, the 401(k) would fail the top heavy test. The IRS defines key employees somewhat differently than highly compensated employees, although both groups are similar in that they earn more than ordinary staff.

As you can see, maintaining a traditional 401(k) plan, and meeting these requirements each year, can be a burden for some companies. Fortunately, by setting up a safe harbor 401(k) plan, a company can avoid the annual nondiscrimination tests and still provide a 401(k) savings plan for employees.

The Takeaway

Companies that don’t want the regulatory obligations of a traditional 401(k) plan, and would like to prioritize talent acquisition and employee retention may want to consider safe harbor 401(k) plans.

However, a business owner needs to weigh the pros and cons of a safe harbor 401(k) plan because, in some cases, it can be expensive for a company to maintain.

But no matter what type of 401(k) an employer decides to go with, having a retirement plan in place, with different savings and investment options, can help employees — and business owners themselves — save for the future.

Help grow your nest egg with a SoFi IRA.

FAQ

Is a safe harbor 401(k) worth it?

Whether a safe harbor 401(k) is worth it depends on the goals of the business owner. A safe harbor 401(k) allows a company to skip the expense of nondiscrimination testing. And by creating a safe harbor 401(k) plan, a business owner may be able to attract and maintain highly skilled employees because of the higher contributions. However, the matching employer contribution requirements can add up to a high expense. A business owner needs to weigh the pros and cons of these plans.

Can I cash out my safe harbor 401(k)?

You can withdraw safe harbor 401(k) funds without penalty at age 59 ½ or if you leave your job. However, hardship withdrawals for immediate and heavy financial need may be allowed in certain circumstances. You can learn more at irs.gov.

Why would a company use a safe harbor 401(k)?

A company might use a safe harbor 401(k) to avoid the expense of nondiscrimination testing and to simplify the administration of a 401(k) plan. They might also use a safe harbor 401(k) to help attract and keep highly skilled employees.

What is an example of a safe harbor 401(k) match?

If an employer with a safe harbor 401(k) chooses to offer non-elective matching contributions, that means they contribute at least 3% of each employee’s annual salary. So if an employee makes $70,000 a year, for example, the employer would contribute $2,100 to their safe harbor 401(k) account.

About the author

Ashley Kilroy

Ashley Kilroy is a seasoned personal finance writer with 15 years of experience simplifying complex concepts for individuals seeking financial security. Her expertise has shined through in well-known publications like Rolling Stone, Forbes, SmartAsset, and Money Talks News. Read full bio.

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401(k) Taxes: Rules on Withdrawals and Contributions

Traditional 401(k) Tax Rules

401(k) Contributions Are Made With Pre-tax Income

401(k) Contributions Lower Your Taxable Income

Withdrawals From a 401(k) Account Are Taxable

Early 401(k) Withdrawals Come With Taxes and Penalties

Roth 401(k) Tax Rules

Your Roth 401(k) Contributions Are Made With After-Tax Income

Roth 401(k) Contributions Do Not Lower Your Taxable Income

Roth 401(k) Withdrawals Are Tax-Free

There Are Limits on Roth 401(k) Withdrawals

You Can Roll Roth 401(k) Money Into a Roth IRA

Do You Have to Pay Taxes on a 401(k) Rollover?

Do You Have to Pay 401(k) Taxes after 59 ½?

Do You Pay 401(k) Taxes on Employer Contributions?

How Can I Avoid 401(k) Taxes on My Withdrawal?

Consider Your Tax Bracket

Strategize Your Account Mix

Decide Where To Live

The Takeaway

FAQ

Do you get taxed on your 401(k)?

When can you withdraw from 401(k) tax free?

How can I avoid paying taxes on my 401(k)?

IRA Tax Deduction Rules

What Is a Tax Deduction?

Putting the IRA Tax Deduction to Use

Understanding Tax-Deferred Accounts

Tax Brackets and IRA Deductions

401(k) Withdrawals and Taxation

What About Roth IRAs and Taxes?

Deduction and Contribution Limits

Investing for Retirement

What is a 401(k) Profit Sharing Plan?

How Does 401(k) Profit Sharing Work?

Pro-Rata Plans

New Comparability 401(k) Profit Sharing

Age-Weighted Plans

Integrated Profit Sharing

Pros and Cons of 401(k) Profit Sharing

Employer Pro: Flexibility of Employer Contributions

Employer Pro: Flexibility in Distributions

Employer Pro: Lower Tax Liability

Employee Pro: Larger Contribution Potential

Employee Con: Inconsistent Contributions

Employee/Employer Pro: Solo 401(k) Contributions

Withdrawals and Taxes on 401(k) Profit Share Plans

The Takeaway

FAQ

Can I cash out my profit-sharing?

How much tax do you pay on profit-sharing withdrawal?

Is profit-sharing 100% vested?

Can I roll my profit-sharing plan into an IRA?

What Is Full Retirement Age for Social Security?

What is Full Retirement Age?

Determine Your Full Retirement Age

Why Full Retirement Age Matters

When to Start Collecting Social Security

Early Versus Late Retirement

Working After Reaching Full Retirement Age

The Takeaway

FAQ

How does age affect my Social Security benefits?

Can I choose to receive Social Security benefits earlier than full retirement age?

What is the significance of the full retirement age increase?

Safe Harbor 401(k) Plan: What Is It? Is It for You?

What Is a Safe Harbor 401(k) Plan?

Traditional 401(k) vs Safe Harbor 401(k) Plans

Comparing Plan Features and Benefits

Choosing the Right Plan for Your Business

Setting Up a Safe Harbor 401(k) Plan

Requirements, Contribution Formulas, and Deadlines

Advantages of Implementing a Safe Harbor 401(k) Plan

Benefits for Employers and Employees

Disadvantages of Safe Harbor Plans

Financial Implications for Employers

Safe Harbor 401(k) Contribution Limits and Match Types

Understanding Contribution Limits

Different Types of Employer Matching Contributions

IRS Compliance Testing and Safe Harbor Provisions

Student Loan
Refinancing

Personal
Loans

Online
Investments