Guest Author - Cate Brizzell

Does your employer offer a 401(k) retirement plan? Does your employer also offer an employer match?

If you answer yes to both questions, and you aren't contributing up to the full amount your employer will match, then you're throwing away free money!

Why is that so? Because even a 50% match is the same as a 50% return on your money. The last time I checked, very few investments were producing that kind of return, especially over the long term.

In addition to an immediate return on your contribution, the 50% return you received from your employer will sit and grow along with your own contributions, tax-free, until you retire. The power of compounding interest is stunning when you run the numbers.

Let's look at a typical example. Say you earn $50,000 a year payable twice a month, and your employer offers a 50% match on contributions up to 6% of your income. In other words, if you contribute 6% of your gross income, you will invest $125 per paycheck to your 401(k) while your employer adds $67.50. You can reasonably assume that if your 401(k) fund are invested in mutual funds indexed to the U.S. stock market, you could earn an average 8% return per year.

If you begin doing this when you're 35 and plan on retiring when you're 67, here's what you'll end up with:

ending balance of $1,695,495
earnings of $1,091,534 (tax-free!)

What would your final numbers be without your employer's contribution?

ending balance of $1,130,330
earnings of $727,689

That means you gained an extra $565,165 at retirement just by participating in your employer match!

So why don't more employees take advantage of employer matching in their 401(k)? Perhaps they don't understand how it works. Perhaps they think it's more complicated than it is. Or, perhaps they think they can't afford it.

Do any of the the above reasons make sense in light of the tremendous financial benefit 401(k) employer matches provide? Let's examine each one.

A 401(k) is simply a form of retirement account that depends on employee contributions. In the past, employees would work for a company for 30 or more years, then retire. Their company would pay them a set amount per month based on how long they worked and how much they earned. Employees depended on their company taking care of them in retirement. Nowadays, it's up to employees to save, and employers try to encourage them to do so by offering "matches". The calculations are simple as well: if your employer matches 50%, then they will add $50 to your 401(k) account for every $100 you contribute. In order to help retirement funds grow, most 401(k) accounts offer mutual fund, bond and cash investments. Employers are free to decide which investments their account balance will be allocated to, and can usually control this via websites, telephone or paper forms. Stock market index funds are usually a solid choice for younger employees who have 15 or more years for their money to grow. If you feel you need help choosing investments for your 401(k), seek the advice of a fee-based financial planner.

Participating in your 401(k) is as simple as visiting your human resources office and filling out a few forms. Most employers have packets of information that will not only provide details on your specific plan, but investment options and performance data as well. The basics you need to know: when you're eligible to participate, how much you need to contribute to earn an employer match, and which investments you have available. If you're eligible to participate, simply fill out the form and choose at least the maximum percentage of income deferral necessary to earn your employer match. ("Income deferral" is simply the percentage of your income that will be "deferred" as a contribution to your 401(k)). That's it! You'll begin accumulating retirement funds within a paycheck or two.

Finally, what about affordability? If you earn $50,000 per year paid twice a month, and your employer matches up to 6%, then you would have to contribute $125 per paycheck to earn the match. However, because the U.S. government wants to encourage employees to participate in 401(k)'s and save for their retirement, they defer income taxes on the amounts you contribute, so that your 401(k) investment comes out of your paycheck before incomes taxes are calculated. With a 28% federal tax rate and 3% state tax rate that equates to $18.75 in tax savings per paycheck. With those savings (that tax money was being taken out of your check before you began participating), the net deduction from your paycheck is only $106.25 versus $125. You really can't afford not to participate fully in your employer match. Adjust your budget and you'll be amazed at how little effort 401(k) savings really involves.

In order to take maximum advantage of your 401(k) matching funds, you should be aware that most employers require vesting periods before their matches become permanent. Most vesting periods are 3 to 5 years. If you leave employment before that time, you cannot take your employer match with you. So, once you begin accepting your employer match, you may need to plan your career changes accordingly.

I hope you see the tremendous opportunity in 401(k) employer matching funds. Guaranteeing you have enough money at retirement will likely require additional planning and investing on your part, but taking the free money your employer offers and adding it to your nest egg will go a long way towards making your retirement dreams a reality.