Understanding highly compensated employees within 401ks
HCE is defined as being above 120k$ or in the top 20 % of the company. The exact cutoff point might be different for each company. Typically, only the base salary is considered for that, but it's the company's (and 401(k)-plan's) decision. The IRS does not require HCE treatment; the IRS requires that 401(k) plans have a 'fair' distribution of usage between all employees. Very often, employees with lower income save (over-proportionally) less in their 401(k), and there is a line where the 401(k) plan is no longer acceptable to the IRS. HCE is a way for companies to ensure this forced balance; by limiting the amount of 401(k) savings for HCE, the companies ensure that the share of all contributions by below-HCE is appropriate. They will calculate/define the HCE cutoff point so that the required distribution is surely achieved. One of the consequences is that when you move over the HCE cutoff point, you can suddenly save a lot less in your 401(k). Nothing can be done about that. See this IRS page: https://www.irs.gov/retirement-plans/plan-participant-employee/definitions Highly Compensated Employee - An individual who: Owned more than 5% of   the interest in the business at any time during the year or the   preceding year, regardless of how much compensation that person earned   or received, or For the preceding year, received compensation from the   business of more than $115,000 (if the preceding year is 2014;   $120,000 if the preceding year is 2015 or 2016), and, if the employer   so chooses, was in the top 20% of employees when ranked by   compensation. There are some nuances with HCE definition. To answer your questions. It's compensation as defined by the plan. Usually it's gross comp, but it can exclude things like fringe benefits, overtime pay, commissions, bonuses, etc. The compensation test is also a look-back test, meaning that an EE is determined to be an HCE in the current year if their compensation in the previous year was over the limit. I'm not sure how stock options affect this, but I expect they would be counted. Probably have an ESOP plan at that point too which is a whole other can-o-woms. The 5% owner test applies to the current year and also has a one-year look-back period. If at ANY point, even for a day, an employee was more than 5% owner, they are HCE for that year and next. Yes there is a limit. A company may limit the amount of HCE's to the top 20% of employees by pay like Aganju said. They can also disregard employees that may otherwise have been excluded under the plan using statutory exclusions. Example, they can disregard employees under 21 years and with less than 1 year of service. Hahaha, the IRS does not like to concisely define things. You can look here, that's probably as concise as you'll get. Hope this helps!
4% of 30k ($1,200) is dwarfed by an $18,000 base pay increase. At 48k maxing out IRA will take ~11.5% of gross income, so at current position (30k salary) 401k contributions would likely be limited to the matching portion anyway. The long-term benefit of a deferred tax retirement plan can't fully be known since tax rates can change over time. If rates increase, the benefit can be mitigated. Personally, I only contribute to 401k enough to get full employer matching, and then I prioritize HSA, IRA, after those, some people like to go back to 401k to max, but I prefer other investments. At this low of an income range, the increase in base pay is far too significant to worry over potential differences in tax-deferred vs after tax investments. "On thing the questioner should do is review the Summary Plan Description (SPD) for the 401(k) plan.  This MAY have details on any plan imposed limits on salary deferrals.  If the SPD does not have sufficient detail, the questioner should request a complete copy of current plan document and then review this with someone who knows how to read plan documents. The document for a 401(k) plan CAN specify a maximum percentage of compensation that a participant in the 401(k) plan can defer REGARDLESS of the maximum dollar deferral limit in Internal Revenue Code Section 402(g).  For example, the document for a 401(k) plan can provide that participants can elect to defer any amount of their compensation (salary) BUT not to exceed ten percent (10%).  Thus, someone whose salary is $50,000 per year will effectively be limited to deferring, at most, $5,000.  Someone making $150,000 will effectively be limited to deferring, at most, $15,000.  This is true regardless of the fact that the 2013 dollar limit on salary deferrals is $17,500.  This is also true regardless of whether or not a participant may want to defer more than ten percent (10%) of compensation. This ""plan imposed"" limit on salary deferral contributions is permissible assuming it is applied in a nondiscriminatory manner.  This plan imposed limit is entirely separate from any other rules or restrictions on salary deferral amounts that might be as a result of things like the average deferral percentage test." 401K accounts, both regular and Roth, generally have loans available. There are maximum amounts that are based on federal limits, and your balance in the program. These rules also determine the amount of time you have to repay the loan, and what happens if you quit or are fired while the loan is outstanding. In these loan programs the loan comes from your 401K funds. Regarding matching funds. This plan is not atypical. Some match right away, some make you wait. Some put in X percent regardless of what you contribute. Some make you opt out, others make you opt in. Some will direct their automatic amounts to a specific fund, unless you tell them otherwise.  The big plus for the fund you describe is the immediate vesting. Some companies will match your investments but then only partially vest the funds. They don't want to put a bunch of matching funds into your account, and then have you leave.  So they say that if you leave before 5 years is up, they will not let you keep all the funds. If you leave after 2 years you keep 25%, if you leave after 3 years you keep 50%... The fact they immediately vest is a very generous plan. "Your employer could consider procuring benefits via a third party administrator, which provides benefits to and bargains collectively on behalf of multiple small companies.  I used to work for a small start-up that did exactly that to improve their benefits across the board, including the 401k.  The fees were still higher than buying a Vanguard index or ETF directly, but much better than the 1% you're talking about.   In the meantime, here's my non-professional advice from personal experience and hindsight: If you're in a low/medium tax bracket and your 401k sucks, you might be better off to pay the tax up front and invest in a taxable account for the flexibility (assuming you're disciplined enough that you don't need the 401k to protect you from yourself).  If you max out a crappy 401k today, you might miss a better opportunity to contribute to a 401k in the future.  Big expenses could pop up at exactly the same time you get better investment options.   Side note: if not enough employees participate in the 401k, the principals won't be able to take full advantage of it themselves.  I think it's called a ""nondiscrimination test"" to ensure that the plan benefits all employees, not just the owners and management.  So voting with your feet might be the best way to spark improvement with your employer.  Good luck!" The managers of the 401(k) have to make their money somewhere.  Either they'll make it from the employer, or from the employees via the expense ratio.  If it's the employer setting up the plan, I can bet whose interest he'll be looking after. Regarding your last comment, I'd recommend looking outside your 401(k) for investing.  If you get free money from your employer for contributing to your 401(k), that's a plus, but I wouldn't -- actually, I don't -- contribute anything beyond the match.  I pay my taxes and I'm done with it. "The ""Deferral"" for the 401k means that you're not collecting your pay immediately, but instead diverting it to a retirement account (Roth 401k in this case). This article defines deferral well: What is the difference between a regular 401(k) deferral (pre-tax) and a Roth 401(k) deferral?  Under either a regular 401(k) deferral or a Roth 401(k) deferral, you   make a deferral contribution by electing to set  aside part of your   pay (by either a certain percentage or a certain dollar amount).  For   a regular 401(k) deferral, the  taxable wages on your W-2 are reduced   by the deferral contribution; therefore, you pay less current income   tax.   However, you will eventually pay tax on these contributions and   earnings when the plan distributes the regular  401(k) deferrals and   earnings to you.  The result is that the tax on the regular 401(k)   deferrals and earnings is only  postponed.  A Roth 401(k) deferral is an after-tax contribution, which  means you   must pay current income tax on the deferral.   Since you have already   paid tax on the deferral, you won’t pay tax on it again when you   receive a distribution of  your Roth 401(k) deferral.  In addition, if   you satisfy cer tain distribution conditions, then you won’t have to   pay tax  on the earnings either.  This means  that the distribution of   the Roth 401(k) earnings can be tax free not just tax  postponed. Traditionally, this deferred compensation typically was directed to a 401k, but now that Roth 401k is another available option, deferred compensation can be directed there as well." Employer matches (even for Roth 401Ks) are put into traditional 401K accounts and are treated as pre-tax income.  Traditional 401K plans are tax deferred accounts, meaning you won't owe any taxes on it this year, but will have to pay taxes on it when you take the money out (likely after retirement). 401K contributions (including the match) are reported to the IRS and are entered in box 12 on the W2 form. "It seems I can make contributions as employee-elective, employer   match, or profit sharing; yet they all end up in the same 401k from my   money since I'm both the employer and employee in this situation. Correct. What does this mean for my allowed limits for each of the 3 types of   contributions? Are all 3 types deductible? ""Deductible""? Nothing is deductible. First you need to calculate your ""compensation"". According to the IRS, it is this: compensation is your “earned income,” which is defined as net earnings   from self-employment after deducting both: So assuming (numbers for example, not real numbers) your business netted $30, and $500 is the SE tax (half). You contributed $17.5 (max) for yourself. Your compensation is thus 30-17.5-0.5=12. Your business can contribute up to 25% of that on your behalf, i.e.: $4K. Total that you can contribute in such a scenario is $21.5K. Whatever is contributed to a regular 401k is deferred, i.e.: excluded from income for the current year and taxed when you withdraw it from 401k (not ""deducted"" - deferred)." Read this.  https://www.irs.gov/retirement-plans/one-participant-401k-plans  The example makes it very clear. It's not a 60% raise. He made 60% more than the previous year. There's lots of things that could account for that. One of them is an annual bonus that was larger than his previous annual bonus - the calculation of that bonus was likely negotiated as part of his contract.  A large chunk of the gains seems to be between that and stock/option awards. Often stock/option vest differently in the first year than remaining years, and the value changes over time as the stock market moves. If you have options granted with a strike price set based on the closing price of stock the day you start, and you cash them out as you get them, after a year if it's gone up 5% you make a bit. After the second year if it's gone up 10%, you doubled your income from that source even though you didn't receive any more options that year.  His salary raise doesn't seem out of line. I've gotten larger raises in my career.  Now... suppose all of his compensation was spread out evenly across all of the employees. CAT has a bit over 100K employees. His total compensation was $16M 16M / 100K = $160. You could give every employee $160/yr more for the cost of the CEO's entire compensation package. That comes out at 7-8 cents/hour. If you only do it with his raise and not the one time bonuses and returns from stock/option grants well... $3/employee/yr.  The best way to invest in people is to offer training to help them move to higher value jobs. Things like tuition reimbursement programs based on maintaining good performance in classes are solid benefits to offer. Or even job training to those who show aptitude for different classes of work. Maybe some merit based bonus structure - people who come up with good ideas for cutting costs, improving efficiency, etc and work to see them implemented qualify for some sort of bonus based on a percentage of the value of that change.  The bigger problem with those types of programs is that collective bargaining agreements tend to forbid any sort of merit based pay. They also make jumping line in seniority impossible - i.e. the union agreement would say that the person most qualified for the extra training is the one who's been in the job the longest. Some of these rules make sense if your goal is that everybody is equal and your idea of fairness is based on avoiding inequality. To justify it, they'll throw up things like the boss's cousin's brother-in-law's ex-wife's son could get preferential treatment if the contract doesn't prevent it. I've never seen anything in any IRS publication that placed limits on the balance of a 401K, only on what you can contribute (and defer from taxes) each year.  The way the IRS 'gets theirs' as it were is on the taxes you have to pay (for a traditional IRA anyway) which would not be insubstantial when you start to figure out the required minimum distribution if the balance was 14Mill.. You're required to take out enough to in theory run the thing out of money by your life expectancy.. The IRS has tables for this stuff to give you the exact numbers, but for the sake of a simple example, their number for someone age 70 (single or with a spouse who is not more than 10 years younger) is 27.4..  If we round that to 28 to make the math nice, then you would be forced to withdraw and pay taxes on around $500,000 per year.  (So there would be a hefty amount of taxes to be paid out for sure). So a lot of that $500K a year going to pay taxes on your distributions, but then, considering you only contributed  660,000 pre-tax dollars in the first place, what a wonderful problem to have to deal with.  Oh don't throw me in THAT briar patch mr fox! "typically, your employer will automatically stop making contributions once you hit the 18k$ limit. it is worth noting that employer contributions (e.g. ""matching"") do not count towards the 18k$ employee pre-tax contribution limit. however, if you have 2 employers during the year their combined payroll deductions might exceed the limit if you do not inform your later employer of the contributions you made at your former employer (or they ignore the info). in which case, you must request a refund of ""excess contributions"" from one of the plans (your choice). you must report the refund as taxable income on your taxes. if you do not make this request by the time you file your taxes, the tax man will reject your filing and ""adjust"" your return with more taxes and penalties. sometimes requesting a refund of excess contributions might cause your employer to remove ""matching"" funds, but i am not clear on the rules behind that. there are some 401k plans that allow ""supplemental after-tax contributions"" up to the combined employee/employer limit (53k$ in 2015 and 2016). it is a rare feature, and if your company offers it, you probably already know.  however, generally it is governed by a separate contribution election that only take effect once you hit the employee pre-tax contribution limit (18k$ in 2015 and 2016). you could ask your hr department to be sure. 401k plans can be changed if there is enough employee demand for a rule change.  especially in a small company, simply asking for them to allow dollar based contributions instead of percent based contributions can cause them to change the plan to allow it. similarly, you could request they allow ""supplemental after-tax contributions"", but that might be a harder change to get." "The only way to know the specific explanation in your situation is to ask your employer. Different companies do it differently, and they will have their reasons for that difference. I've asked ""But why is it that way?"" enough times to feel confident in telling you it's rarely an arbitrary decision.  In the case of your employer's policy, I can think of a number of reasons why they would limit match earnings per paycheck: Vesting, in a sense - Much as stock options have vesting requirements where you have to work for a certain amount of time to receive the options, this policy works as a sort of vesting mechanism for your employer matching funds. Without it, you could rapidly accumulate your full annual match amount in a few pay periods at the beginning of the year, and then immediately leave for employment elsewhere. You gain 100% of the annual match for only 1-2 months of work, while the employees who remain there all year work 12 months to gain the same 100%. Dollar Cost Averaging - By purchasing the same investment vehicle at different prices over time, you can reduce the impact of volatility on your earnings. For the same reason that 401k plans usually restrict you to a limited selection of mutual funds - namely, the implicit assumption is that you probably have little to no clue about investing - they also do other strategic things to encourage employees to invest (at least somewhat) wisely. By spacing their matching fund out over time, they encourage you to space your contributions over time, and they thereby indirectly force you to practice a sensible strategy of dollar cost averaging. Dollar Cost Averaging, seen from another angle - Mutual funds are the 18-wheeler trucks of the investment super-highway. They carry a lot of cargo, but they are difficult to start, stop, or steer quickly. For the same reasons that DCA is smart for you, it's also smart for a fund. The money is easier to manage and invest according to the goals of the fund if the investments trickle in over time and there are no sudden radical changes. Imagine if every employer that does matching allowed the full maximum match to be earned on the first paycheck of the year - the mutual funds in 401ks would get big balloons of money in January followed by a drastically lower investment for the rest of the year. And that would create volatility. Plan Administration Fees - Your employer has to pay the company managing the 401k for their services. It is likely that their agreement with the management company requires them to pay on a monthly basis, so it potentially makes things convenient for the accounting people on both ends if there's a steady monthly flow of money in and out. (Whether this point is at all relevant is very much dependent on how your company's agreement is structured, and how well the folks handling payroll and accounting understand it.) The Bottom Line - Your employer (let us hope) makes profits. And they pay expenses. And companies, for a variety of financial reasons, prefer to spread their profits and expenses as evenly over the year as they can. There are a lot of ways they achieve this - for example, a seasonal business might offer an annual payment plan to spread their seasonal revenue over the year. Likewise, the matching funds they are paying to you the employees are coming out of their bottom line. And the company would rather not have the majority of those funds being disbursed in a single quarter. They want a nice, even distribution. So once again it behooves them to create a 401k system that supports that objective. To Sum Up Ultimately, those 401k matching funds are a carrot. And that carrot manipulates you the employee into behaving in a way that is good for your employer, good for your investment management company, and good for your own investment success. Unless you are one of the rare birds who can outperform a dollar-cost-averaged investment in a low-cost index fund, there's very little to chafe at about this arrangement. If you are that rare bird, then your investment earning power likely outstrips the value of your annual matching monies significantly, in which case it isn't even worth thinking about." if you have a work-sponsored retirement plan  A 401k plan counts as a work-sponsored retirement plan. If you are a highly compensated employee (this is $115,000 for 2012), even your 401k contributions are limited.  Given that, is there any difference at all between having a traditional IRA and a normal, taxable (non-retirement) investment account?  You should consider a Roth IRA if you are making too much for a traditional IRA. When you make even more, then you can't contribute to a Roth, but can only contribute post-tax money to a traditional IRA.  Use Form 8606 to keep track of non-deductable contributions over the years. Publication 590 is the official IRS explanation of what is deductable or not. I routinely max out my 401k contributions.  The company's stupid website actually forces me to make two contributions -- one for the regular contribution, and another for the Catchup Contribution. I routinely adjust my 401k contribution throughout the year -- at the first of the year, I calculate how much to withhold such that I can adjust withholding to 6% of salary more than before, once I hit the SS tax limit.  At the first of the year, I ignore bonuses.  I re-adjust (if needed) once I know bonuses. I've worked for my company for almost 30 years now.