Depending on the terms of your 401(k) plan, your employer may be able to retain some, or all, of the contributions it has made to your account if you separate from your employment too soon.

Vesting Schedules

Though the contributions you make to your retirement savings plan are always yours to keep, any employer-contributed funds may be subject to a vesting schedule. A vesting schedule is a provision of a 401(k) retirement plan stipulating that you must render a certain number of service years to your employer before you wholly own any employer contributions. Employers often use vesting schedules to increase retention; they limit your access to employer contributions until you reach a minimum number of service years.

Employee vesting ranges from 0 to 100% depending on the length of service. If you are 0% vested, it means you are entitled to withdraw only those funds you contributed. If you are 100% vested, you own 100% of the funds in your account, including any employer contributions or interest that you have earned.

The inclusion of a vesting schedule means that if you separate from your employment before the required number of years of service have passed, you may be required to forfeit some or all of the money your employer has invested in your 401(k). If you elect to defer only the minimum amount to your retirement savings account, employer contributions may represent the bulk of your balance.

Though the Department of Labor requires full vesting after six years of service, each employer dictates the specific terms of its vesting schedule. These terms can vary widely depending on the type of schedule the employer uses and its method of counting service years. While some plans allow for immediate vesting, many employers require that you complete at least one full year of service before you begin climbing the vesting ladder at all.

Cliff Vesting

One common vesting schedule format is cliff vesting. You must complete multiple years of service when you are 0% vested. After the allotted time has elapsed, the vesting percentage automatically jumps to 100%.

Assume your employer uses a cliff vesting schedule requiring five full years of work before vestment. After four years, your 401(k) balance is $12,000, composed of 50% payroll deferrals made by you and 50% employer contributions. If you decide to leave your employer for another job, you can only keep the $6,000 you contributed because you have not completed the full five years of service required to attain full vestment. If you wait just one more year, all contributions to your 401(k) are yours to keep, regardless of your employment status.

Graduated Vesting

Graduated vesting schedules are a little less severe. You gradually increase your vesting percentage over time, rather than spending several years at 0%. However, employers may still require an initial period of service before vesting begins. A common graduated vesting schedule is an allocation of 20% for each year of service after the first year.

Assume the employer in the example above uses this type of graduated vesting schedule instead of a cliff vesting schedule. After four full years of service, you are 60% vested. If you decide to change jobs, you are entitled to the $6,000 you contributed and 60% of any employer contributions. In this example, the total amount you would be eligible to retain is $6,000 + ($6,000 * 60%), or $9,600.

Should You Stay or Should You Go?

Vesting schedules help employers protect their investment in current employees, making vesting a common provision of many 401(k) plans. However, if you are unhappy with your current employer, waiting to be fully vested can feel more like waiting for a hostage to be released.

If you are planning on leaving your employer before the six-year mark, check the specific terms of your 401(k) plan. If you have been contributing aggressively to your account, the amount of money you stand to lose to vesting requirements may not be enough to keep you in a dead-end job. If you rely on employer contributions to pad your retirement savings, an understanding of vesting requirements can prevent unnecessary forfeiture of necessary funds.