What is a 401(k) deduction?
A 401(k) deduction is the portion of an employee’s wages that is withheld from their paycheck and contributed to their 401(k) retirement savings plan. These deductions are made pre-tax (for traditional 401(k) plans) or post-tax (for Roth 401(k) plans), depending on the employee’s election.
For small business employers, managing 401(k) deductions means coordinating payroll processes, staying compliant with IRS limits, and ensuring contributions are deposited into the correct retirement accounts on time. With tools like Homebase, these payroll deductions can be automated, tracked, and reported—removing guesswork and reducing the risk of costly errors.
Why 401(k) deductions matter
A 401(k) is one of the most popular and effective ways for employees to save for retirement. Offering a 401(k) plan—even without matching contributions—can help small businesses:
- Stay competitive in hiring
- Improve employee satisfaction and retention
- Offer tax-deferred savings for employees
- Take advantage of potential tax benefits for the business
- Comply with emerging state-mandated retirement requirements
And for employees, regular deductions help build long-term savings in a tax-advantaged way.
How 401(k) deductions work
When an employee elects to participate in a 401(k) plan:
- They specify a deduction amount—either a fixed dollar amount or a percentage of each paycheck.
- The employer withholds that amount from each pay period’s wages.
- The deduction is forwarded to the 401(k) plan provider on the employee’s behalf.
- The contribution grows tax-deferred (for traditional plans) or tax-free (for Roth plans).
Example:
If an employee earning $1,000 per week elects to defer 5% to their 401(k), you would withhold $50 from each paycheck as a 401(k) deduction and deposit it into their retirement account.
Traditional vs. Roth 401(k) deductions
Employers must track and report both types of deductions accurately and ensure proper categorization in payroll and year-end reporting.
IRS limits for 401(k) deductions (2025)
The IRS places annual limits on how much an employee can contribute:
- Employee elective deferral limit: $23,500
- Catch-up contribution (age 50+): $7,500
- Total contribution limit (employee + employer match): $69,000
These limits are adjusted periodically for inflation, and employers are responsible for monitoring contributions to prevent overages.
Employer responsibilities for 401(k) deductions
When offering a 401(k) plan, employers must:
- Withhold the correct amount from each paycheck
- Submit contributions timely (typically within 7 business days for small businesses)
- Maintain accurate records of employee elections and changes
- Provide required disclosures about plan details and fees
- Report deductions on pay stubs and W-2s
Failure to remit contributions on time or follow ERISA rules can result in penalties and trigger Department of Labor audits.
Coordinating payroll with 401(k) deductions
If you use payroll software, be sure your system can:
- Track employee contribution rates
- Apply deductions before or after tax as appropriate
- Separate traditional and Roth contributions
- Handle catch-up contributions for eligible employees
- Report contributions for tax and compliance purposes
- Sync with your 401(k) plan provider or third-party administrator
Manual tracking or spreadsheet-based payroll increases the risk of errors, late deposits, or missed compliance deadlines.
State-mandated retirement plans
Some states—like California, Oregon, Illinois, and Colorado—require employers of a certain size to either:
- Offer a qualified retirement plan (like a 401(k)), or
- Enroll employees in a state-run retirement savings program
In these states, proper deduction handling and enrollment tracking are essential to avoiding penalties.
How Homebase simplifies 401(k) payroll deductions
Homebase makes it easier for small businesses to handle retirement contributions as part of their regular payroll process. With automated tools and built-in compliance support, you can:
- Set up employee deduction rates for traditional or Roth 401(k) plans
- Withhold contributions automatically from each paycheck
- Track limits and catch-up contributions
- Export data or integrate with 401(k) plan providers
- Keep payroll compliant with federal and state regulations
Whether you already offer a 401(k) or are exploring one for your team, Homebase helps simplify the back-end work so you can stay focused on your business.
Explore Homebase Payroll to automate 401(k) deductions, streamline tax compliance, and help your team invest in their future.