What Is a 401(k) True-Up and How Does It Work?

A 401(k) plan is a widely utilized retirement savings vehicle that allows employees to contribute a portion of their pre-tax or Roth income directly from their paycheck. Many employers enhance these plans by offering matching contributions, which can significantly amplify an employee’s retirement savings over time. This employer match acts as an incentive, encouraging employees to participate in their company’s retirement program. While these contributions are a valuable benefit, the precise timing and calculation of employer matches can sometimes lead to situations where employees do not receive the maximum possible contribution they are entitled to. Understanding the mechanisms behind these contributions is important for maximizing one’s retirement outlook.

Defining a 401(k) True-Up

A 401(k) true-up is an adjustment made by an employer, typically at the end of the plan year, to ensure employees receive the full employer matching contribution based on their total annual eligible compensation. While matching formulas are often designed on an annual basis, many payroll systems apply matches per pay period. This discrepancy can create a shortfall in the employer’s total match by year-end.

This situation commonly arises when an employee’s contributions or compensation fluctuate throughout the year. For instance, if an employee maximizes contributions early, they might stop contributing mid-year. If employer matches cease when contributions stop, the employee misses potential matches for remaining pay periods. The true-up mechanism addresses this by reviewing the entire year’s contributions and compensation, then making an additional payment to cover any missed matching amounts. It reconciles per-pay-period contributions with the annual matching formula.

How True-Ups are Calculated

True-up calculations ensure the employer’s total matching contribution aligns with the plan’s annual formula. This is necessary in scenarios like when employees accelerate contributions early in the year. For example, an employee might contribute the maximum allowable amount before the year concludes. If employer matches are applied per pay period and cease when contributions stop, the employee would not receive the full match they would have if contributions were spread evenly.

Another scenario for a true-up occurs when an employee experiences significant compensation changes, such as a large bonus or mid-year raise. If the employer match was calculated on each paycheck before these increases, the total match received might not reflect the higher annual compensation earned. The true-up calculation begins by determining the total hypothetical maximum employer match the employee was eligible for based on their total eligible compensation for the entire plan year and the plan’s specific matching formula. For instance, if a plan matches 50% of the first 6% of an employee’s annual salary, the maximum annual match is based on 3% of their total annual compensation.

From this calculated maximum annual match, the total amount of employer matching contributions already made throughout the year is subtracted. The resulting difference is the true-up amount, representing the additional contribution the employer owes to fully satisfy the plan’s annual matching commitment. This adjustment ensures employees are not penalized for their contribution patterns or earnings fluctuations. These calculations are typically handled by the plan administrator or payroll provider, often at year-end or shortly after. Employers must adhere to the plan document’s terms.

Why True-Ups are Important

For employees, a true-up provision ensures they receive the full potential employer contribution based on their annual compensation and participation. This mechanism safeguards employees from losing valuable matching funds due to their contribution patterns, such as front-loading to reach the annual limit early. It allows employees to maximize their retirement savings potential, as the employer match represents a substantial, risk-free return on their investment. Receiving the full match contributes directly to a more robust retirement nest egg.

From an employer’s perspective, providing a true-up maintains fairness and equity among employees participating in the 401(k) plan. It demonstrates the employer’s commitment to the stated matching formula, ensuring all eligible employees receive the same level of matching support, regardless of their pay frequency or contribution schedule. This practice helps uphold the integrity of the 401(k) plan, fostering employee trust and satisfaction. Fulfilling the full matching commitment can also enhance an employer’s overall benefits package, contributing to employee retention and attracting new talent. While additional calculations and potential cash outlays are involved, the perceived value of a robust and equitable retirement plan can outweigh these administrative considerations.