What Does "Vested" Mean in Retirement Planning?

If you’re contributing to a retirement account through an employer, such as a 401(k), you may be fortunate to also have your employer make contributions on your behalf. However, sometimes these contributions come with strings attached, called vesting schedules.

If your retirement plan comes with a vesting schedule, the employer match portion of your retirement savings may not fully belong to you until you’ve been with the company for a certain amount of time.

We’ll help you understand how vesting works and define the different types of vesting. We’ll also help you understand how vesting might impact your retirement planning.

What is vesting, and how does it work?

Vesting has to do with ownership over retirement benefits from an employer, and it really applies to you only if your employer makes contributions on your behalf. An employer can place a vesting schedule on any retirement contributions it offers, but vesting most commonly applies to a 401(k) or employee stock options.

With an employer retirement contribution, as you make contributions to your retirement account, your employer does, too. However, your employer may put a stipulation on its contribution that until you’ve been with the company for a certain length of time (sometimes referred to as a “vesting period”), you will not fully own their contributions.

If you stay with the company for the vesting period, the employer contributions to your retirement plan will be yours to keep; however, if you leave a company before you’re fully vested, you could forfeit the employer contributions to your retirement plan—along with some other benefits.

Employers instill a vesting period because it rewards commitment to a company and can help reduce employee turnover.

Types of vesting

Vesting requirements can look different depending on your employer’s plan, but most plans will base their vesting terms on three types of vesting: immediate vesting, cliff vesting and graded vesting.

Immediate vesting

With immediate vesting, there are no requirements for how long you need to be with the company to keep employer contributions. Any contributions your employer makes to your retirement plan are yours to keep as soon as your employer makes the contribution. If your employer offers a SEP IRA or a SIMPLE 401(k) or IRA, the IRS requires that your employer give you immediate vesting in those funds.

Cliff vesting

Cliff vesting requires employees to be with a company for a certain number of years before they own the employer contributions. Once they’ve been with the company for the required number of years, all of the employer contributions (and any future employer contributions) belong to the employee.

Graded vesting

Graded vesting gradually increases your vested percentage until you reach 100 percent. The IRS sets a vesting period limit of six years for any company that uses a graded vesting schedule, though many companies follow a schedule that lets employees become vested after three to five years.

Under a graded vesting schedule, if you leave the company before you’re fully vested, you’d be able to take a percentage of your employer’s contributions with you (also referred to as your “vested balance”) depending on your vested percentage. So, if your employer had contributed a total of $1,000 to your retirement savings, and you were 50 percent vested at the time you left, you’d be able to take $500 of those contributions with you. The rest would stay with your employer.

What happens once you’re fully vested?

Once you’re fully vested in a plan, all retirement funds in that plan—including both the contributions you made and the contributions your employer made—are yours to keep, even if you leave the company.

Vesting also typically applies to any future contributions made by your employer, meaning once you’re vested, any additional contributions your employer makes are immediately yours to keep. This can vary, however, depending on your plan.

Keep in mind that just because you own all of the funds, that doesn’t mean you can do whatever you want with them. You’ll still have to follow the rules of your plan. If you leave your employer, you’d be able to take the funds with you, but you likely won’t be able to withdraw funds without penalty until you reach retirement age (59½).

How does vesting impact your retirement plan?

An employer match is a great way to grow your retirement savings, but a good retirement plan will not rely solely on one method of retirement savings. Vesting may impact your 401(k) savings through your employer, but it doesn’t impact other elements of your plan you’ve put in place on your own, like an IRA, permanent life insurance, annuities or other investments.

If you’ve changed jobs or are considering changing jobs, now is a great time to take a look at your retirement savings and make sure your plan is on track to reach your financial goals in the future. A Northwestern Mutual financial advisor can help you understand your employer retirement benefits and how they fit into your larger financial plan. An advisor can also help you take stock of your big financial picture and make recommendations that will keep your financial goals on track now and in the future.