---
title: 401(k) — what it means and why it matters | Allocate AI
description: An employer-sponsored retirement account you fund from your paycheck, with tax advantages and a yearly contribution limit of $24,500 (2026).
canonical: https://allocateai.io/glossary/401k
site: Allocate AI — https://allocateai.io
---

# 401(k)

An employer-sponsored retirement account you fund from your paycheck, with tax advantages and a yearly contribution limit of $24,500 (2026).

A 401(k) is a retirement account offered through your job. You choose a percentage of each paycheck to contribute, your employer moves it into the account before you ever see it, and you invest it in the funds the plan offers. Many employers add a matching contribution on top.

The tax advantage is the point. In a traditional 401(k), contributions come out before income tax, so a $1,000 contribution lowers taxable income by $1,000 and the money grows untaxed until you withdraw it in retirement. In a Roth 401(k), contributions are taxed now and withdrawals in retirement are tax-free. Either way, no tax is due on dividends or gains along the way.

For 2026, you can contribute up to $24,500 of your own pay, plus $8,000 more if you are 50 or older ($11,250 at ages 60 to 63). Employer contributions do not count against that figure but do count toward the overall 415(c) cap of $72,000.

Money is meant to stay until 59½; earlier withdrawals generally owe income tax plus a 10% penalty, with some exceptions. When you leave a job, you can leave the account, roll it to a new employer's plan, or roll it to an IRA.

The common mistake is contributing less than the full employer match, which leaves free money on the table, or setting a percentage once and never raising it after a raise. A second one is spreading contributions unevenly so that the limit is hit in October and the match stops early, if the plan does not true up.

[Try the Mega Backdoor vs. Traditional 401(k) →](https://allocateai.io/calculators/mega-backdoor-growth)

## Related terms

- [Employer match (401(k) match)](https://allocateai.io/glossary/employer-match) — Money your employer adds to your 401(k) based on what you contribute, such as 50 cents per dollar up to 6% of pay; it is part of your compensation.
- [Roth 401(k)](https://allocateai.io/glossary/roth-401k) — A version of the 401(k) where contributions are taxed now and every dollar, including growth, comes out tax-free in retirement.
- [Traditional vs Roth](https://allocateai.io/glossary/traditional-vs-roth) — The choice between paying tax on retirement savings later (traditional) or now (Roth); it usually comes down to your tax rate today versus in retirement.
- [415(c) limit (total 401(k) contribution limit)](https://allocateai.io/glossary/415c-limit) — The cap on everything that can go into your 401(k) in a year from all sources, $72,000 in 2026, including your contributions and your employer's.

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Allocate AI is a budgeting and financial-planning app: link your accounts, say what you want in plain words, and it writes the plan and stages every change for your approval. Read more at https://allocateai.io or see all pages in https://allocateai.io/llms.txt.