Contributing enough to the 401k plan in order to get the full employer match is among the most basic rule in saving and investing. When it comes to matching your 401k contributions, employers can do it in several different ways.
Suppose your employer matches dollar for dollar on the first 4% of pay and your pay is $120,000 per year. With 24 pay periods in a year, your gross pay is $5,000 per pay period. If you contribute $200 per pay, which is 4% of $5,000, your employer matches another $200. Over the course of a year, your employer will match $4,800. Now, if you contribute $1,000 in the first pay period of the year, should your employer match $1,000 because it’s still below 4% of your pay for the year?
No, because even though your annual pay is $120,000, your employer doesn’t know whether you will work the entire year. If you quit right afterwards, you will have earned only $5,000, and the employer should only match $200. So the employer only wants to match $200 in the first pay period of the year, not $1,000. In the next pay period, same thing, you earn $5,000 and contribute $1,000, and the employer matches $200.
Some employers make it simple for themselves and they just operate on a per-payroll basis. Whatever you earn and contribute in a pay period, the employer just calculates the match based on those. This method is easiest for the payroll software but it creates a problem for employees who max out the 401k contributions.
To continue the previous example, you contribute $1,000 per pay period and the employer matches $200. This goes on until you max out your $19,000 annual contribution in the 19th pay period. In pay period 20, your contribution stops and the employer match also stops. Over the course of the year, you only received $200 * 19 = $3,800 in employer match, not the $4,800 you expected. When the employer operates on a per-payroll basis, you have to make sure you contribute at least 4% of pay through the last pay period. If you max out too soon, you miss out on the match. It can be tricky if your pay varies from pay period to pay period or if you get a surprise bonus in the middle of the year.
To make life easier for the employees, some employers will do an extra calculation after the end of the year. In our previous example, when the employee maxed out too early and only received $3,800 in 401k match, the employer will contribute additional $1,000 in the following year to make up the difference. This is called a true-up contribution. This way the employees won’t have to worry about adjusting their contribution percentages to make sure they don’t max out too early. You can front-load their 401k contributions and still receive the full match.
However, besides making you wait until the following year to receive the true-up match, some employers impose another requirement for the true-up match. You only get the true-up match if you work through the end of the year. If you max out your contribution in May and you quit in September, you will get less match than if you make your contributions last through September. This saves the employer a little money on the employees who maxed out before they quit.
Not all employers have this silly requirement. If your employer gives a true-up match and it isn’t limited to employees who work through the end of the year, after you quit, you should wait for the true-up match before you roll over your 401k money.
True-Up Every Payroll
Employers who are more current with the best practice give a true-up match every payroll. In our previous example, when your contribution stops in pay period 20, the employer sees you made $100,000 and you contributed $19,000 year-to-date. The employer should match $4,000. Therefore the employer matches another $200 in pay period 20 even though your contribution is zero. This continues through the end of the year. If you quit, the employer match also stops. You always get the promised match.
In terms of employee-friendliness, the employer match practices go in this order, from least friendly to most friendly:
- Every payroll with no true-up: Employees must watch and adjust the contributions throughout the year.
- Annual true-up with end-of-year requirement: Employees who maxed out early and quit are deprived of the full match.
- Annual true-up without end-of-year requirement: Employees who maxed out early must wait for the true-up in the following year.
- True-up every payroll: Employees always get the full match in real time.
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The most friendly is when the match is done every paycheck and is based on the amount you contribute to the plan, not your salary, e.g. 50% of your contribution. I had an employer who did that and it was awesome!
Not sure if I follow your logic.
For example, if you contribute to the max and get paid $300k/year, then based on your logic where the employer contribute 50% of your contribution, it’ll only be $19k/2= $9.5k.
Wouldn’t it be better if your employer contribute, say a set percent, ie 5%, every paycheck based on your salary? In the example above, your employer will contribute $15k (0.05 x $300k = $15k).
Am I missing something?
David, I was referring to the fact that if the match is based on your contribution, rather than your salary, no true up is required. Nor is worrying about over how many paychecks you should contribute.
“Over the course of the year, you only received $20 * 19 = $3,800” should read: $200*19.
Harry Sit says
Thank you. Corrected.
In TSP the employer matches 5%. Do you know if this is matching the actual pay for the pay period or a percentage of salary after divided by 26 pay periods? So if I work 20 hours of overtime and my 5% has increased due to my pay increase for the period… Does the employer match what i put in or only up to the 5% of divided salary by 26 pay periods?
Harry Sit says
According to this from TSP, the contributions for civilian employees are based on “basic pay.” I take it as not including overtime. TSP also operates on every payroll. When your contribution stops, the match also stops.
Now for the ugly regressive side of 401ks.
Matches in my company are limited one to one up to 6% of your salary. So if you make $150k, they’ll match $9k. If you make $50k, they’ll only match you for $3k.
Additionally, highly compensated employees at my company have contributions limited to 10% regardless of income. So, a HCE making $190k gets the to shield the full $19k from taxes whereas someone making $125k only gets to sock away $12.5k.
No one talks about this side of it though.
Go to hr and ask…tell!…them to implement a safe harbor option. This eliminates testing and allows all to max out
I work for one of the world’s largest companies. I tried to raise the issue in the past and was summarily dismissed. That’s okay though; I just contribute the max I’m allowed even though I’d prefer to do more.
excellent article. Good information of payroll management.
Payroll Lady says
Since employer contributions are reported on the W2 in box 12d, how are annual true-up contributions reported to the IRS?
QUICK QUESTION: My employer does a ‘True-Up’, and when I receive my ‘True-Up’ in early next year; how is the ‘True-Up’ characterized for Tax Year purposes with regard to the Annual Maximum 401k contributions?
Although my ‘True-Up’ match was ‘earned’ in 2019, it will be added to my account in 2020. So which year does the ‘True-Up’ affect the Annual Maximum 401k contributions?
Harry Sit says
It counts as a contribution for the previous plan year.
Ivan DeJesus says
Thank you! I have been searching years for this exact information. Both my company and the 401k holder shrugged their shoulders at me. ‘True-up’ is the buzz word I needed.
PJ and Molly says
Hi — Late to the conversation, but have a true-up situation I’d like advice on. I was recently laid off. I worked through 2021. I asked about the true-up since I foolishly front-loaded my contributions and was told they don’t give true-ups for terminated employees. Doesn’t seem fair, but is that legal? It’s a big company.
Harry Sit says
As I understand it, you should still get the true-up for 2021 but you may not get it for 2022. Just keep your account open and wait.
PJ and Molly says
Thanks — they told me I won’t get it for 2021. Do you think that’s within their rights to not give?
Harry Sit says
They often don’t know exactly how the plan works. If you know other active employees already received the true-up but you didn’t, you can ask them to show you the plan documents in writing. Otherwise just wait. Chances are good you’ll get it for 2021.
This is exactly what I am looking for – True-up every payroll
However, can you provide the actual pay period true-up calculation?
When I look at an individual’s YTD deferrals compared to their YTD eligible pay, then provide a matching contribution equal to the minimum of that percentage or the matching contribution percentage, I end up over-matching by the end of the year. What am I missing??
If an employer is contributing quarterly matches, is there a deadline within each quarter for that contribution or can it run over into the next quarter
Harry Sit says
Quarterly matches are only the employer’s choice. The law only requires annual matches no later than the employer’s tax filing deadline.