Busey Bank | Understanding Your 401(k)

Planning for retirement can feel overwhelming, so it’s important to understand the basics of a 401(k) plan. Whether you’re new to the workforce or simply want to make better use of your benefits, we break down how the plan works and why it matters.

What is a 401(k)?

A 401(k) is an employer-sponsored vehicle that allows eligible employees to set aside a portion of their paycheck for retirement. The money you contribute is often invested in a target-date or risk-based fund so it has the potential to grow over time.

How contributions work

One of the key features of a 401(k) is that contributions are usually made directly from your paycheck. You choose how much you want to contribute through either a percentage or flat dollar amount.

There are two main types of 401(k) contributions:

• Traditional 401(k) | Contributions made on a pre-tax basis reduce your current taxable income because they are deducted before income taxes are applied. The trade-off is that both your contributions and any earnings will generally be subject to income tax when withdrawn.
  
  
• Roth 401(k) | Contributions are made with after-tax dollars. You pay income taxes on your contributions when they are made, but qualified withdrawals of both contributions and investment earnings are tax-free in retirement. For individuals who expect to be in a higher tax bracket during retirement, a Roth 401(k) can offer a significant tax advantage. How do you ensure your Roth 401(k) distribution is qualified?
  
  A Roth 401(k) distribution is generally considered qualified, and therefore tax-free, when both of the following conditions are met:
  
  1. At least five years have passed since the beginning of the year in which you made your first 401(k) contribution; and
  
  2. You are age 59½ or better at the time of the distribution.
  
  Example:
  • First Roth 401(k) contribution:                   October 2, 2026
  • Beginning of five-year period:                  January 1, 2026
  • Five-year period ends:                              December 31, 2026
  • Tax-free qualified distribution available:  January 1, 2031

Many employers allow you to split contributions between traditional and Roth options, giving your tax strategy more flexibility.

Employer matching contribution

A valuable feature of a 401(k) is the potential for employer matching contributions. Your employer may contribute additional money to your account by matching a portion of your contributions, up to specified limits.

Employer matching contributions are often considered ‘free money’ because they increase your retirement savings without requiring additional contributions from you. However, these contributions may be subject to a vesting schedule. Vesting determines when employer contributions become fully yours. If you leave the company before you are fully vested, you may forfeit some or all of the employer matching contributions.

Contribution limits

Each year, the IRS sets limits on how much you can contribute to a 401(k). These limits typically change over time to account for inflation. There are separate limits for employee contributions and total contributions (which include employer matching).

Additionally, individuals aged 50 or older are often allowed to make “catch-up contributions,” enabling them to save more as they approach retirement. This feature can be especially helpful for those who started saving later or want to boost their retirement nest egg.

In 2026, retirement plan limits set by the IRS include meaningful updates for individuals age 50 and up. These changes include the enhanced “super” catch-up window at ages 60 to 63 and the start of the Roth‑only rule for higher earners’ catch‑up contributions. Learn more about these updates in our Money Matters blog.

Investment Selection

When you contribute to your 401(k), you must decide how your money is invested. Most plans offer a menu of options, which may include:

• Stock funds | Tend to offer higher growth potential but more volatility
• Bond funds | Generally more stable but grow more slowly
• Cash equivalents | usually lower risk and lower yielding than stocks or bonds
• Target-date funds | Become more conservative as you approach your expected retirement date

Target-date funds are popular because they simplify investing. You choose the fund closest to the year you plan to retire, and it maintains broad diversification as it gradually reduces the stock and increases the bond allocations as the date approaches. It is incumbent on you to ask for help if you are not sure if the allocation matches your needs and goals, especially as you near retirement.

Compounding and growing

A major advantage of a 401(k) is the power of compound growth. Compounding allows your investment earnings to generate additional earnings over time. As a result, you earn returns not only on your original contributions but also on the returns those contributions have already generated. Even modest contributions made early in your career can grow substantially over time because of the long-term effect of compounding.

Consistent contributions, employer matching and long-term investment growth work together to build retirement savings in a way that’s difficult to replicate outside of a tax-advantaged plan.

Withdrawals and loans

Understanding withdrawal rules from your 401(k) is crucial. Generally, withdrawals made before age 59½ are subject to income taxes and a 10% early withdrawal penalty. However, some plans allow hardship withdrawals or loans, which can provide access to funds in emergencies. These options come with restrictions and long-term consequences, so they should be used with caution.

Once you reach retirement age, withdrawals from a traditional 401(k) are taxed as ordinary income. Roth 401(k) withdrawals, if qualified, are tax-free. At a certain age, you’ll also be required to take minimum distributions from traditional accounts, ensuring that the government eventually collects taxes on those funds.

Changing employers

If you leave your employer, you typically have several options for your 401(k):

• Leave the money in your former employer’s plan (though your balance can be forced out of the plan if it is below a minimum amount, commonly $7,000)
• Cash it out, which is generally discouraged due to taxes, penalties and lost growth potential
• Roll it over into your new employer’s 401(k)
• Roll it over into an Individual Retirement Account (IRA), or Roth IRA if you made Roth 401(k) contributions

Rolling over your 401(k) allows you to keep your retirement savings intact and avoid immediate tax consequences.

Why you should contribute to your 401(k)

A 401(k) is more than just another benefit—it’s a cornerstone of many Americans’ retirement plans. With tax advantages, employer contributions and the power of long-term investing, it offers one of the most efficient ways to prepare for life after full-time employment.

While it’s not the only retirement savings option, understanding your 401(k) and using it wisely can make a substantial difference in your financial future. Learn more about maximizing your 401(k) in our Money Matters blog.

The key to saving in your 401(k) is starting early, contributing consistently and taking full advantage of employer matching whenever possible. Even a small amount contributed to the plan each paycheck adds up over time. To improve your outcome further, consider increasing your contributions by 1% annually or whenever you get a raise.

Busey Wealth Management is here to help ensure you have a retirement strategy that works for you. Learn more at busey.com/wealth-management.

This is not intended to provide legal, tax or accounting advice. Any statement contained in this communication concerning U.S. tax matters is not intended or written to be used, and cannot be used, for the purpose of avoiding penalties imposed on the relevant taxpayer. Clients should obtain their own independent tax advice based on their particular circumstances.

This material is provided for educational purposes only and should not be construed as investment advice or an offer or solicitation to buy or sell securities.

This presentation is for general information purposes only. It does not take into account the particular investment objectives, restrictions, tax and financial situation or other needs of any specific client.