Understanding the Basics of an Employee Savings Plan

Here’s what an employee savings plan offers: It is a tax-advantaged investment plan that an employer makes available to members of their staff. The employer may or may not contribute a company match of some level in addition to the money contributed by their employees. These accounts can typically be used at a later date by the employees, who can tap the funds for long-term goals such as retirement or for healthcare expenses.

One benefit of employee savings plans is that they can simplify the saving process. The employer typically takes automated deductions from a worker’s paycheck before income tax is assessed. In this way, these savings plans may increase your contributions to retirement savings contributions while also saving on taxes.

What Is an Employee Savings Plan?

Some employers offer an employee savings plan to help employees invest for retirement and other long-term financial goals, like a down payment on a house. Leveraging an employee savings plan is one of the first steps to building a simple savings plan you can stick to.

Each employee chooses how much they want to contribute to the plan each month. That amount is then deducted from the employee’s paycheck each month. If paychecks are distributed biweekly, the contribution will likely be split up between the two.

The automated process can help make it easier to save, and employees generally have the option to change their contribution amount based on their needs and goals.

Employee savings plans contributions are made on a pre-tax basis. That means the funds are transferred to your savings plan before taxes are taken from your paycheck. This allows account holders to save money while paying taxes on a smaller portion of your salary.

In some cases, your employer may offer a matching contribution to any funds you contribute to your employee savings plan. Usually, there is a match limit equivalent to a certain percentage of your salary.

For instance, imagine your employer matches your contributions up to 3% of your salary and you earn $75,000 a year. That amounts to $2,250.

As long as you contribute at least $2,250 to your plan, your employer will give you the same amount, for a total of $4,500 — plus anything over that amount you decide to contribute.

Recommended: How to Switch Banks

Types of Employee Savings Plans

There are several types of employee savings plans you may have access to through your job.

Many organizations offer qualified defined contribution plans, which means it qualifies for pre-tax contributions and tax-deferred growth. Private companies offer these through 401(k) plans, while public or non-profit organizations generally offer 403(b) or 457(b) plans.

Another type of employee savings plan you may see is a health savings account (HSA). Some companies will offer this kind of account to their team.

If you have a high-deductible health plan (HDHP), this plan lets you save money tax-free to pay for qualified medical costs that aren’t covered by insurance.

A profit-sharing plan is less common, but also helps you save for retirement. Employees own shares of the company and receive distributions from the company either quarterly or annually. However, as an employee, you cannot add your own contribution to a profit-sharing plan.

A defined benefits plan, also known as a pension plan, is another type of employer-sponsored plan. In this type of plan, employees are offered a specific benefit, which may be based on factors like your years of service at the company.

These days, very few companies offer this type of benefit, instead opting to offer a 401(k) plan or other similar option.

What Are the Benefits of an Employee Savings Plan?

There are a number of advantages to using an employee savings plan. The first is that contributions are tax-free. In most cases, income taxes are paid at the time of withdrawal. That may reduce the amount of taxes you’ll have to pay on your overall salary.

So even though your take-home pay is smaller because of those automatic contributions, your taxable income is also less. Plus you have a growing investment account to help you prepare for retirement or other goals.

Another advantage of participating in an employee savings plan is that your employer could offer a free contribution match as part of their benefits package to retain team members. According to a Bureau of Labor Statistics report, 51% of employers who offer 401(k) plans provide some kind of company match.

Employee savings plans also come with larger annual contribution limits compared to individual retirement accounts (IRAs), which are also tax-advantaged. For the tax years 2023, the limit for employee savings plans is $22,500 . A traditional IRA, on the other hand, only allows you to contribute $6,500 for the tax year.

If you’re 50 years or older, both types of plans do allow for an extra catch up contribution. You can add an extra $7,500 for eligible employee savings plans in 2023, but only an extra $1,000 for your IRA.

Employer matches do not count towards your plan’s contribution limit.

What to Look Out For

While there are a number of advantages that come with an employee savings plan, there are also some pitfalls to beware of. Consider these points:

•   Some employers require you to work at the company long enough to become vested before you can access your matched funds. Being fully vested means that you’ve reached the minimum number of years to be able to make withdrawals from your employer match.

•   If you leave the company before becoming vested, you do get all of the contributions (and growth) you’ve made in your plan. But if you leave before becoming vested, you may lose the matched funds from your employer.

In some cases, you may receive a percentage of that money based on how long you’ve been there. Either way, it’s important to find out these details from the human resources department at your company, especially if you’re thinking about a job change.

•   Another downside to an employer savings plan is that although your contributions are tax-free, you do have to pay federal and state income taxes when you make withdrawals.

•   Another factor to consider is your tax bracket. Some people may expect to be in a higher tax bracket during their prime working years, so the immediate tax deduction may be helpful. Others may end up being in a higher tax bracket after they’ve accumulated wealth over decades and reach retirement age.

•   In addition to paying income taxes on your withdrawals, employee savings plans also typically come with a 10% early withdrawal penalty if you take out cash from, say, a 401(k) before reaching 59 ½ years old. There are some exceptions to this penalty, but be aware of it should you be considering making an early withdrawal.

•   Also remember that your plan contributions are investments that are subject to risk. It’s not like a savings account through a financial institution that offers a yield based on your deposits. You will typically be responsible for crafting your portfolio and managing your investments. The options available to you may vary based on the specific plan offered by your employer.

•   No matter how much you contribute, the value of your plan is impacted by the performance of your investment choices, regardless of how much money you contributed over the years. It is also helpful to review your goals regularly and gauge your risk based on your time horizons.

For instance, investors may opt to invest in riskier investment vehicles when they’re younger because the potential for gains may outweigh the risk. As they get older and approach retirement, they may begin to allocate less money to those higher-risk investments.

•   Finally, be aware of any administrative fees that come with your plan. The average cost is 0.37% of invested assets per year for the largest plans and 1.42% for the smallest plans; fees will probably vary based on the plan.

Explore different options available within your plan to choose the one that makes sense in terms of both investments and fees.

Recommended: How to Automate Your Finances

Borrowing from Your Employee Savings Plan

Many employee savings plans designed to save for retirement allow you to borrow funds from your account if you choose to. The IRS has limitations, such as only being able to borrow the lesser of 50% or $50,000.

You’ll pay interest just as you would with any other loan, but that money gets paid back into your account. This may be one option to consider if you find yourself in need of cash, but there are several drawbacks to be aware of.

The loan terms only apply while you remain at the job providing the employee savings plan. If you leave your job with a loan balance, you must repay the full amount by the due date of your next federal tax return.

Another consideration is that if you don’t pay the loan back by its due date, it counts as a distribution and you will likely have to pay income taxes and penalty on the money.

You’ll also miss out on the growth those borrowed funds may have experienced, which could set back your retirement goals. When considering different types of savings accounts, it’s wise to acquaint yourself with a variety of possible scenarios.

The Takeaway

An employee savings plan can be an advantageous way to save towards retirement and other goals. It can be especially beneficial if your employer offers matching contributions, which can help boost your savings.

By starting early and automating the process, you can build an investment account with robust contributions throughout your career.

An employee savings plan may be just one part of a well-rounded financial portfolio, but there are other types of savings accounts that can be useful. For shorter-term goals, like an emergency fund, it may be worth looking into another type of account, like a checking or savings account.

SoFi Checking and Savings is an online bank account that allows users to save and spend in one place. You’ll earn a competitive annual percentage yield (APY) and pay no account fees, which can help your money grow faster.

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.

SoFi® Checking and Savings is offered through SoFi Bank, N.A. ©2024 SoFi Bank, N.A. All rights reserved. Member FDIC. Equal Housing Lender.
The SoFi Bank Debit Mastercard® is issued by SoFi Bank, N.A., pursuant to license by Mastercard International Incorporated and can be used everywhere Mastercard is accepted. Mastercard is a registered trademark, and the circles design is a trademark of Mastercard International Incorporated.

SoFi members with direct deposit activity can earn 4.20% annual percentage yield (APY) on savings balances (including Vaults) and 0.50% APY on checking balances. Direct Deposit means a recurring deposit of regular income to an account holder’s SoFi Checking or Savings account, including payroll, pension, or government benefit payments (e.g., Social Security), made by the account holder’s employer, payroll or benefits provider or government agency (“Direct Deposit”) via the Automated Clearing House (“ACH”) Network during a 30-day Evaluation Period (as defined below). Deposits that are not from an employer or government agency, including but not limited to check deposits, peer-to-peer transfers (e.g., transfers from PayPal, Venmo, etc.), merchant transactions (e.g., transactions from PayPal, Stripe, Square, etc.), and bank ACH funds transfers and wire transfers from external accounts, or are non-recurring in nature (e.g., IRS tax refunds), do not constitute Direct Deposit activity. There is no minimum Direct Deposit amount required to qualify for the stated interest rate. SoFi members with direct deposit are eligible for other SoFi Plus benefits.

As an alternative to direct deposit, SoFi members with Qualifying Deposits can earn 4.20% APY on savings balances (including Vaults) and 0.50% APY on checking balances. Qualifying Deposits means one or more deposits that, in the aggregate, are equal to or greater than $5,000 to an account holder’s SoFi Checking and Savings account (“Qualifying Deposits”) during a 30-day Evaluation Period (as defined below). Qualifying Deposits only include those deposits from the following eligible sources: (i) ACH transfers, (ii) inbound wire transfers, (iii) peer-to-peer transfers (i.e., external transfers from PayPal, Venmo, etc. and internal peer-to-peer transfers from a SoFi account belonging to another account holder), (iv) check deposits, (v) instant funding to your SoFi Bank Debit Card, (vi) push payments to your SoFi Bank Debit Card, and (vii) cash deposits. Qualifying Deposits do not include: (i) transfers between an account holder’s Checking account, Savings account, and/or Vaults; (ii) interest payments; (iii) bonuses issued by SoFi Bank or its affiliates; or (iv) credits, reversals, and refunds from SoFi Bank, N.A. (“SoFi Bank”) or from a merchant. SoFi members with Qualifying Deposits are not eligible for other SoFi Plus benefits.

SoFi Bank shall, in its sole discretion, assess each account holder’s Direct Deposit activity and Qualifying Deposits throughout each 30-Day Evaluation Period to determine the applicability of rates and may request additional documentation for verification of eligibility. The 30-Day Evaluation Period refers to the “Start Date” and “End Date” set forth on the APY Details page of your account, which comprises a period of 30 calendar days (the “30-Day Evaluation Period”). You can access the APY Details page at any time by logging into your SoFi account on the SoFi mobile app or SoFi website and selecting either (i) Banking > Savings > Current APY or (ii) Banking > Checking > Current APY. Upon receiving a Direct Deposit or $5,000 in Qualifying Deposits to your account, you will begin earning 4.20% APY on savings balances (including Vaults) and 0.50% on checking balances on or before the following calendar day. You will continue to earn these APYs for (i) the remainder of the current 30-Day Evaluation Period and through the end of the subsequent 30-Day Evaluation Period and (ii) any following 30-day Evaluation Periods during which SoFi Bank determines you to have Direct Deposit activity or $5,000 in Qualifying Deposits without interruption.

SoFi Bank reserves the right to grant a grace period to account holders following a change in Direct Deposit activity or Qualifying Deposits activity before adjusting rates. If SoFi Bank grants you a grace period, the dates for such grace period will be reflected on the APY Details page of your account. If SoFi Bank determines that you did not have Direct Deposit activity or $5,000 in Qualifying Deposits during the current 30-day Evaluation Period and, if applicable, the grace period, then you will begin earning the rates earned by account holders without either Direct Deposit or Qualifying Deposits until you have Direct Deposit activity or $5,000 in Qualifying Deposits in a subsequent 30-Day Evaluation Period. For the avoidance of doubt, an account holder with both Direct Deposit activity and Qualifying Deposits will earn the rates earned by account holders with Direct Deposit.

Members without either Direct Deposit activity or Qualifying Deposits, as determined by SoFi Bank, during a 30-Day Evaluation Period and, if applicable, the grace period, will earn 1.20% APY on savings balances (including Vaults) and 0.50% APY on checking balances.

Interest rates are variable and subject to change at any time. These rates are current as of 10/31/2024. There is no minimum balance requirement. Additional information can be found at https://www.sofi.com/legal/banking-rate-sheet.

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.

External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.

SoFi Invest®