The 401(k) plan is a qualified retirement pension system that offers tax deferral. If an employee is eligible to join this plan, the employer can contribute a portion of the salary to the 401(k) account with pre-tax amounts. These contributions are generally not subject to income tax withholding and are not included in box 1 of Form W-2. Instead, income tax is deferred and will be imposed when withdrawals are made later. However, Social Security and Medicare taxes are still withheld, and the employer must report these contributions under the Federal Unemployment Tax Act (FFCRA). Additionally, some 401(k) plans may offer an option to make after-tax contributions like Roth contributions.

Contribution Limits

The Internal Revenue Code sets certain limits on the amount that can be deferred into a 401(k) plan, and the employee's contribution limit may vary depending on the plan's terms. This limit is indicated in box 12 of Form W-2, and for more details on contributions, it is useful to refer to IRS Publication 525. Employers should refer to Publication 560 when establishing and maintaining a 401(k) plan.

Distributions

The 401(k) plan specifies the conditions for distributions related to contributions, allowing for lump-sum withdrawals or rollovers to other retirement accounts. The taxability of distributions depends on whether certain requirements are met. Details on tax treatment can be found in Topics 412 and 413.

Hardship Withdrawals

The 401(k) plan has provisions for accessing the account in the event of an unexpected financial crisis. Most plans allow hardship withdrawals in cases of severe financial need, but since 2019, the scope of funds available for hardship withdrawals has expanded. Hardship withdrawals are generally limited to elective contributions, and income generated from deferred contributions is not included. Additionally, hardship withdrawals are not considered qualified rollover distributions.

Additional 10% Tax

If you receive a distribution from a 401(k) plan and withdraw before age 59 ½, an additional 10% tax may apply. However, this tax may be waived in certain exceptional circumstances. Related details can be found in IRS Topic 558, and regulations regarding early withdrawals from retirement plans are explained in Publication 575.