How Contributions and Loan Repayments Move from Your Paycheck to Your 401(k) Account

This article explains what happens between the moment a deduction appears on your pay stub and the moment it shows up in your 401(k) account.

Your plan's rules control the specifics. Check your Summary Plan Description (SPD) for how these rules apply to you.

When you enroll and select a contribution rate, your employer withholds that amount from each paycheck and sends it to the plan. The money never reaches your bank account.

Contribution types your plan may offer:

• Pre-tax: Reduces your taxable income in the year contributed. Taxed as ordinary income when distributed.

• Roth: Withheld from pay that has already been taxed. Earnings come out tax-free only if the distribution is qualified, which generally requires that five years have passed since your first Roth contribution and that you are age 59½ or older, disabled, or deceased.

• Catch-up: An additional amount above the standard IRS limit, available in the year you turn 50 or later, if your plan permits catch-up contributions.

Two things to know about catch-up contributions:

Participants who reach age 60 through 63 during the year may be eligible for a higher catch-up limit than participants age 50 to 59, if the plan offers it.

If your prior-year FICA wages from your employer exceeded an IRS threshold that is adjusted annually, your catch-up contributions must be made on a Roth basis. This is a federal requirement, not a plan choice. If it applies to you, your catch-up amount will be withheld after tax even if your regular contributions are pre-tax.

What pay your election applies to. Your plan document defines which types of pay are eligible for deferral. Most plans include regular wages. Some include bonuses and commissions and some exclude them. Your SPD states which.

Changing your rate. Most plans allow changes through your NestEggs online account. Some plans limit how often you can change your rate or restrict changes to specific dates. Check your SPD.

The annual limit. The IRS caps how much you can contribute from pay each year across all your employers. The limit is adjusted annually. Once you reach it, contributions stop for the rest of the year.

If your plan provides a match or a profit sharing contribution, your employer funds it from its own assets. It is not withheld from your pay.

• Timing varies. Some employers fund the match every payroll. Others fund quarterly or after the plan year ends. Both are permitted.

• Vesting may apply. Employer contributions are often subject to a vesting schedule that determines how much is yours if you leave before you are fully vested. Your own contributions are always 100% yours.

• How the match is calculated matters. If your plan calculates the match each pay period rather than on full-year pay, contributing heavily early in the year and stopping can reduce the match you receive. Some plans correct for this with a year-end true-up and some do not. Your SPD states the method.

If you have an outstanding 401(k) loan, your repayments are also withheld from your paycheck.

• Payments are level and made at least quarterly over the loan term, which is generally five years or less unless the loan was used to buy your primary residence.

• Each payment includes principal and interest. The interest goes into your own account, not to your employer or to NestEggs.

• Repayments are withheld from pay that has already been taxed.

On the tax treatment of loan repayments. You will sometimes hear that a 401(k) loan is taxed twice. That is not an accurate description. The money you received when you took the loan was not taxed at the time. You repay with after-tax dollars, and those repaid amounts are later taxed when distributed from the plan, the same as any other pre-tax balance. The practical effect is that the interest portion is taxed on the way in and again on the way out. The principal is not taxed twice.

If a payment is missed. Your plan may allow a cure period to make up the missed payment. Under IRS rules, a cure period cannot extend past the last day of the calendar quarter following the quarter in which the payment was due. If the payment is not made up in time, the outstanding loan balance plus accrued interest becomes a deemed distribution. It is reported to the IRS as taxable income, may be subject to an additional 10% early distribution tax, and you still owe the loan.

Payroll gaps happen for reasons including unpaid leave, reduced hours, and employer changes. If you miss a repayment or expect to, contact NestEggs before the cure period runs out. Separate rules may apply to bona fide leaves of absence and to military service.

After the deduction appears on your pay stub:

1. Your employer withholds the amounts and totals them for the pay period.

2. Your employer transmits the funds and a payroll file to the plan's trust or custodial account.

3. NestEggs, acting as your plan's recordkeeper, applies the funds to individual accounts and invests them according to each participant's elections.

Timing. Federal rules require your employer to deposit withheld contributions and loan repayments as soon as they can reasonably be separated from the employer's general assets. There is also an outer limit: no later than the 15th business day of the month following the month the amounts were withheld. That outer limit is not a target or a safe harbor. The Department of Labor's position is that most employers can and must deposit far sooner. Plans with fewer than 100 participants may use a seven business day safe harbor.

In practice, deposits typically occur within a few business days of each pay date.

To confirm your deductions are being applied correctly:

1. Log in to your NestEggs account.

2. Open your transaction history or recent activity.

3. Compare the contribution and loan repayment amounts posted to your account against the deduction lines on your pay stub for the same pay date.

Allow a few business days after each pay date before expecting a transaction to post.

Contact NestEggs if you see a deduction on your pay stub that has not posted to your account, an amount that does not match, a contribution rate different from what you elected, or a loan repayment that stopped.

This material is general information about how 401(k) plans operate. It is not tax, legal, or investment advice. Where this article and your plan document differ, the plan document controls.