Employers can contribute to an employee’s 401(k) on a matching basis. Some employers will make additional contributions to your 401(k) based on the amount of your own contributions.
Matching can be done on a dollar-for-dollar basis, meaning that for every dollar you contribute to your account, they will add a dollar as well. It can also be done using a factor, such as ½, meaning they will contribute a dollar every time you contribute two.
Many employers actually use a combination of the two, such as matching dollar for dollar up to a certain amount, and then a 50% match for another interval before capping the contribution. The cap on employer contributions is usually calculated as a percentage of the employee’s salary, such as 3%.
A 3% match means that the employer will match dollar for dollar up to 3% of the employee’s annual salary. Instead of doing a matching contribution, employers sometimes automatically contribute a flat amount for everyone.
Matching encourages employee participation and contributions to the plan, however, which is desirable for the health of the overall plan, and makes it easier for highly compensated employees (HCEs) to contribute more to their accounts without making the plan top-heavy.
Employer contributions must also comply with ERISA guidelines. It is quite common for employers to put a vesting schedule on the amounts they have contributed to employees, as an incentive for employees to remain employed with them.
Sometimes vesting is referred to as “golden handcuffs.”