Employee savings plan Definition

What is an employee savings plan?

An employee savings plan is a pooled investment account that is often matched by an employer. Similar to a 401(k), an employee savings plan, or ESP, lets workers deposit a portion of their pretax earnings, with employers contributing a certain percentage or dollar amount. Employees decide how much they want to save and the money is taken directly from their paychecks and deposited into the savings plan.

Deeper definition

Employers typically match an employee’s contribution to the savings plan up to a certain dollar amount or up to a certain percentage. Employee savings accounts are intended for long-term financial goals such as retirement, a home purchase or college tuition, and while employees can withdraw their contributions at any time, there may be a waiting period before they can access the funds their employer has contributed.

An employee savings plan is typically offered by smaller businesses that can’t invest in a 401(k). Because employees contribute their pretax earnings, the employee savings plan reduces their taxable income, thus lowering the amount of tax they have to pay.

The employee savings plan has other tax benefits, including the deferral of taxes on the money until it is withdrawn. In the meantime, it earns interest. Employers often help employees set up the employee savings plan, but workers choose their own investments and manage the account.

Employee savings plan example

Gail earns $65,000 a year and contributes $7,000 of that to her company’s employee savings plan. Her contribution comes out of her pretax earnings, reducing her taxable income for the year to $58,000. Gail’s employer contributes 50 cents for every $1 she contributes, up to 6 percent of her pay. Gail has to be with the company for three years before she has access to the employer matching funds. When Gail withdraws the money after she retires, it is taxable.