Regularly adding to your 401(k) is a tax-free method to save for retirement through your employer. The laws of compounding interest demonstrate that each additional dollar saved provides you with much larger returns in the years to come. You are permitted to add to your 401(k) when you are out of work, however, it may not be wise depending on your financial situation. And you must remember that you can only contribute as much as you earned during the year from working -- income from such sources as investments or unemployment checks cannot be contributed to your 401(k) or to any other qualified retirement plan. So if you have not worked at all during the current tax year, you can't contribute anything.
Legal Options With 401(k)
You are legally permitted to contribute to your 401(k) at any time, whether you are employed, unemployed or retired. The account can remain with your old employer if you have at least $5,000 in the account. You are also legally permitted to rollover the account to a qualified personal individual retirement arrangement, such as a traditional or Roth IRA, rather than leaving the money within your previous employer's 401(k) plan.
The most important factor in determining whether to continue to invest in your 401(k) is your financial situation. If you are in a tenuous situation with no immediate access to new income, it is important to save every dollar and not contribute to your 401(k). Financial advisers generally proscribe that you need enough savings for one year of living expenses without a job. If you have this amount, you can strongly consider contributing to your 401(k) even though you are not working.
As of 2012, your limit on tax-free traditional 401(k) contributions is $17,000 or $22,500 if you are 50 years or older. However, if you worked for an employer that provided 401(k) matching benefits, your total contributions plus your employer's matching contributions can cap out as high as $50,000 for employees aged 49 and younger, or $55,500 if you are 50 years old or older. If you become unemployed when you are close to your $17,000 or $22,500 cap, respectively, it may make sense for you to contribute enough to reach the annual limit, depending on your financial situation.
Perhaps one of the best reasons to maintain contributing to your 401(k) is psychological rather than financial. If you get out of the habit of saving for retirement even for a few months, it is extremely difficult to get back into it. That seems to be especially true for women, who on average save about 1 percent less on their paychecks then men according to a Hewett and Associates study cited in a 2009 "Forbes" article.
Kathy Zheng is a personal financial planner. She holds a Bachelor of Arts in economics and is certified as a level 1 financial adviser.