We all want to find our perfect match—especially one we can retire with.
Between the tax advantages and this year’s higher contribution limits, employees could have plenty of incentive to put money aside for retirement. The most persuasive nudge, however, might just be an employer’s promise to pitch in.
So how does this important incentive work? Below, we’ll cover what you need to know about 401(k) matching.
401(k) employer matching 101
A 401(k) plan with an employer match feature provides an opportunity for the employer to contribute to an employee's retirement account based on how much that employee defers into the plan. Matching contributions are like an additional reward for saving for your retirement.
The popularity of employer matching contributions shouldn't come as a surprise given their favorable tax treatment. For starters, matching contributions are typically 100 percent tax deductible for employers, up to the annual corporate tax deduction limit on all employer contributions (25% of aggregate compensation of all eligible employees). That means employer matching contributions aren't subject to the same tax treatment as forms of taxable compensation, such as bonuses.¹
Even though matching contributions are tax deductible by the company, they are typically not included in the employee's gross income until distributed, and they escape both the employer and employee portions of FICA (Medicare and Social Security), unemployment, and other payroll taxes. Matching contributions have the added upside of being able to grow tax-deferred over time. With the passage of SECURE 2.0, employers have the option to allow an employee to treat their matching contribution as a Roth contribution. There are specific conditions an employee must meet and the election is irrevocable. The contribution amount will be included in their taxable income for the year it's made but the participant will benefit from the funds possibly being tax free when distributed.4
Another reason matching contributions are so popular is they can usually increase the participation rate of the company's rank-and-file employees in the plan, who are ordinarily less inclined to make 401(k) contributions. A matching contribution can be a powerful incentive for employees to get in the game and not walk away from "free money.” At Gusto Retirement, we see 85% plan participation when a match is offered.³ When these employees contribute more, the plan itself may be less likely to fail annual nondiscrimination testing, which can help owners and executives in the long run.
There are a few different approaches to calculating an employer match. Typically, the formula is a simple one: a percentage of what an employee contributes to their 401(k) account, capped at a percentage of their salary.
One of the most common matching formulas we see is 100 percent of deferrals, up to 4 percent of wages. For example, here's how the annualized match would be calculated for an individual earning an $85,000 salary who contributed $24,500:
100% x $24,500 = $24,000 (what the employee contributed) but...
4% x $85,000 = $3,400 (the maximum amount the employer will match)
Even though 100 percent of $24,500 amounts to an impressive $24,500, the employee won't receive more than $3,400, or 4% of her salary. Even so, that's an impressive total of $27,900 safely tucked away. Not too shabby.
This is a hypothetical example for illustrative purposes only and does not represent any current or past client accounts.
Contribution limits
For 2026, employee 401(k) contributions are capped at $24,500 per year. If they are age 50 or older, their limit will include a catch-up contribution giving them a deferral limit of $32,500 for individuals aged 50-50 and 64+ or $35,750 for ages 60–63. It's important to note this cap applies strictly to what an individual contributes, not what an employer matches. In other words, 401(k) employer matching contributions are NOT applied against the $24,500 limit—which is partly why they're so lucrative for employees looking to maximize their retirement savings.²
That said, there is a cap on the combined amount that an employee and employer may contribute in a year: for 2026, $72,000 (catch up contributions are not included). If that number seems surprisingly high, remember that companies have additional means of contributing to employee retirement accounts, in addition to matching contributions with the most common being profit sharing contributions.
Profit sharing contributions don't require an employee to make 401(k) deferrals to receive the benefit. Instead, all eligible employees, whether or not they choose to make salary deferrals, receive an allocation of the employer's profit sharing contributions. Consequently, these sorts of discretionary profit sharing contributions are commonly referred to as "Nonelective Contributions."
Vesting schedules
While employer matching is already an attractive feature, employers can also apply a vesting schedule to those matching contributions. A "vesting" provision in a plan document sets a schedule that determines how much of the match an employee has actually earned the right to keep, increasing with each year of service until the employee is fully (100%) vested. It's important to note that a vesting schedule doesn't change how much the employer contributes — you still fund 100% of the match each year. It only affects how much an employee keeps if they leave before being fully vested, in which case they forfeit the portion they haven't yet earned. Because staying longer means keeping more, a vesting schedule can be an incentive for employees to stick around.
There are two types of vesting schedules: graded and cliff. Under the graded approach, employer contribution accounts will gradually vest in increments, with the most common being 20% per year of service. With cliff vesting, employer contributions vest all at once, after the employee serves the minimum length of time.
Maximum vesting schedules: Graded vs. cliff
While an employer can define the vesting schedule, there are regulatory limits. In general, for non-safe harbor matching contributions an employer cannot set a vesting schedule greater than six years for graded vesting or three years for cliff vesting. The chart below shows the maximum vesting schedules allowed.
Tenure (years) | Graded vesting schedule | Cliff vesting schedule
|
Less than 2 | 0% | 0% |
2 but less than 3 | 20% | 0% |
3 but less than 4 | 40% | 100% |
4 but less than 5 | 60% | 100% |
5 but less than 6 | 80% | 100% |
6 or more | 100% | 100% |
An employer may choose a more favorable graded or cliff vesting schedule, but not one that is more stringent than the above.
It is important to note that if the employer has set up a safe harbor plan (see more here) there are different vesting requirements. Traditional safe harbor contributions cannot be subject to a vesting schedule and QACA safe harbor contributions must be 100% vested after two years.
So what's the most common vesting schedule? According to the Bureau of Labor Statistics, nearly half of companies with a retirement plan choose a graded schedule spaced out over five years.
401(k) compliance
While employers aren't required to offer an employer match feature, there can be substantial benefits to doing so—especially when it comes to compliance.
Employer matching contributions are subject to an annual nondiscrimination test called the Actual Contribution Percentage (ACP) test, which compares the average rate of matching contributions received by your highly compensated employees against the rate received by everyone else. If the plan fails, the employer has to correct it — usually by refunding part of the match to higher-paid employees or making additional contributions for the rest — which is why the plan design choices below matter.
A Safe Harbor plan is a type of 401(k) plan that automatically satisfies most nondiscrimination testing and can be an attractive strategy for small businesses that would typically have problems with plan compliance, or wouldn't otherwise have the resources to manage it.⁵
However, a Safe Harbor plan comes with a price — in addition to notice and other requirements, the plan must include mandatory employer matching or nonelective contributions.
To maintain Safe Harbor status using matching contributions, an employer can opt for one of the approaches below:
Traditional Basic match: 100% match on deferrals up to 3% of compensation, plus a 50% match on deferrals between 3% and 5% of compensation.
QACA Basic match: A Qualified Automatic Contribution Arrangement (QACA) is a special type of Safe Harbor plan with a minimum match of 100% of the first 1% of compensation, plus a 50% match on deferrals between 1% and 6% of compensation.
Traditional or QACA Enhanced match: Any matching formula at least as generous as the Basic matching formula at each tier, but the employer cannot offer a contribution formula requiring a participant to defer more than 6% of compensation to receive the maximum match. A common enhanced matching formula for traditional safe harbor plans is 100% match up to 4% of compensation.
To maintain Safe Harbor status using a nonelective contribution formula, the plan must provide an employer contribution of at least 3% of compensation to all eligible employees, even those that don't contribute anything themselves.
For examples of each approach, read our full guide to Safe Harbor 401(k) plans.
Further, either form of employer contributions must generally vest immediately. An exception is a plan that offers a QACA Safe Harbor feature. This type of safe harbor can elect up to a 2-year graded or cliff vesting schedule, but must follow additional other rules involving auto-enrollment.
When companies offer a 401(k) match, they're doing more than just capitalizing on an employer tax deduction. Today, employee tenure averages just under four years. Among millennials, those numbers are even lower. Because one in two employees would turn down a job offer from a company that does not offer a retirement benefit, companies can gain an upper hand in the race to attract and retain talent.⁶
Gusto Retirement makes it easy and affordable to offer a 401(k) plan with matching contributions. We'll work with you to help design a plan with an employer match that encourages employees to save for their retirement—and hopefully stick around, too.⁷
FAQs
How does 401(k) employer matching work?
An employer match is a contribution the employer makes to an employee's 401(k) account based on how much the employee contributes. The formula is typically a percentage of the employee's contribution, capped at a percentage of their salary. For example, with the most common formula (100% of deferrals, up to 4% of compensation), an employee earning $85,000 who maxes out contributions would receive up to $3,400 in matching — regardless of how much more they contributed beyond that cap.
Do employer matching contributions count against the employee's contribution limit?
No. The employee elective deferral limit ($24,500 in 2026, or $32,500 for those 50 or older ($35,750 for ages 60–63)) applies only to what the employee contributes. Employer matching contributions are separate and do not count against that limit. However, there is a combined limit for total contributions (employee + employer + profit sharing): $72,000 in 2026, or $80,000 for those 50 or older ($83,250 for ages 60–63).
What is a vesting schedule, and how does it affect employer matching?
Vesting determines when employees have earned the right to keep their employer's matching contributions even if they leave employment. Under a graded schedule, employees vest gradually (e.g., 20% per year over 5 years). Under cliff vesting, employees are 0% vested until a set date, then become 100% vested all at once (maximum 3 years for cliff). Employees who leave before being fully vested forfeit the unvested portion. Traditional Safe Harbor contributions always vest immediately while QACA Safe Harbor contributions can be subject to a 2 year vesting schedule.
What are the Safe Harbor matching formulas for a 401(k)?
There are three main Safe Harbor matching approaches: (1) Traditional Basic match — 100% on the first 3% of compensation deferred, plus 50% on the next 2%; (2) Enhanced match — any formula at least as generous as the Basic match, up to a 6% deferral cap; and (3) QACA Basic match — 100% on the first 1% of compensation, plus 50% on the next 5%, paired with mandatory auto-enrollment. A Safe Harbor plan can alternatively use a nonelective contribution of at least 3% of compensation for all eligible employees instead of a match.
Disclosures
¹ The information provided herein is general in nature and is for informational purposes only. It should not be used as a substitute for specific tax and/or financial advice that considers all relevant facts and circumstances. You are advised to consult a qualified financial adviser or tax professional before relying on the information provided herein.
² Varies by age and may be adjusted annually to account for IRS cost-of-living adjustments. Learn more.
3Based on Gusto Retirement internal analytics as of July 2025.
⁴Roth contributions are always distributed tax-free. The earnings on Roth contributions will be tax-free if the following conditions are met: (a) you're either over age 59 ½, disabled, or have died AND (b) it has been 5 years since your first Roth contribution under the current plan. Please consult a qualified financial advisor or tax professional to determine what is applicable to your financial situation.
⁵ In general, Safe Harbor 401(k) plans automatically satisfy Top Heavy requirements. One exception is for plan years in which the employer makes discretionary contributions (such as profit sharing contributions) in addition to Safe Harbor contributions. Removing Safe Harbor contributions mid-year will also require plans be subject to all compliance testing.
6Gusto Retirement (formerly Guideline) research run with Suzy. Insights based on data collected Dec 2023 to Feb 2024 with 150 US-based employers and 1038 US-based employees, ages 18-75. Guideline was not identified as the survey sponsor. The experiences of the respondents in this survey may not be representative of all people.
⁷ See here for more information regarding fees or view Gusto Investment Services, LLC’s Form ADV 2A Brochure.
