What tax benefits are provided by a traditional 401(k) plan?

A traditional 401(k) plan provides tax benefits primarily through deductions for contributions. When employees contribute to a traditional 401(k), those contributions are made on a pre-tax basis, meaning they reduce the employee's taxable income for the year in which the contributions are made. This results in an immediate tax benefit, as it can lower the overall tax liability for that year.

The growth of the investments within the 401(k) is tax-deferred, which allows the account to compound without being taxed until withdrawals are made during retirement. However, while investment growth is advantageous, the key tax benefit associated with contributions is the ability to deduct them, allowing for more funds to be put towards retirement savings.

Withdrawals from a traditional 401(k) are subject to income tax, making the option regarding tax-exempt withdrawals after retirement incorrect, as tax will be owed on the amounts distributed during retirement depending on the individual's tax bracket at that time. Likewise, immediate tax liability on contributions or tax-free growth on contributions does not accurately reflect how a traditional 401(k) operates.