Vesting is a process through which employer contributions to an employee retirement plan become owned by the employee. With graded vesting, an employee must become vested by at least 20% of their benefits after a specified period. An additional 20% becomes vested each subsequent year. How long that initial period is depends upon how the employer determines their contributions.
The difference between graded and graduated vesting is that a graduated plan doesn’t involve an automatic annual increase; the plan can be randomly designed by the employer. While the initial period before the first vesting may be more than a year in a graded system, the following changes in vesting must occur on an annual schedule. In a graded system it can be several years between steps, although it is rare for it to be more than 2 years each time.
Employer contributions are routinely tied to a vesting schedule. While the employer cannot make any stipulations relating to employee contributions, they have full control of how they commit their contributions. Graded and graduated plans allow employers to provide incentive for employees to stay with their companies, at least as long as it takes to become completely vested.
Another form of vesting a company may use is called cliff vesting. Very unpopular with employees, this system offers the employees nothing until many years have passed. No employer contributions are yours until that cliff is reached. The longest period an employer can wait with a cliff vesting situation is 5 years, after which all the contributions belong to the employee, even though they were made all along.