COMPARING RETIREMENT PLANS TRADITIONAL DEFINED BENEFIT PLANS
PLAN FEATURES Is the Plan a defined benefit or a defined contribution plan?
Defined Benefit Plan
CASH BALANCE PLANS
401(K) PLANS Defined Contribution Plan
Defined Benefit Plan
Generally, companies contribute a percentage of the employees’ earnings each year and employees make pretax and/or after-tax contributions; the employee account balances are credited with actual investment returns
Companies credit a percentage of the employees’ earnings each year Employees’ accounts are credited with a guaranteed rate of investment return
The employee
The employer
How does it work?
Employees typically receive a monthly retirement benefit based on years of service and salary in the last 3-5 years of employment
Who determines how the money is invested?
The employer
Who bears the investment risk?
The employer
The employee
The employer
What if investments have higher than expected return?
Employer funding requirements are reduced and potentially eliminated
The employees’ benefit increases
Employer funding requirements are reduced and potentially eliminated
Is an annual actuarial valuation required?
Yes
No
Yes
Is the plan’s cost definitely determinable?
No, turnover, mortality, expected earnings, forfeitures, etc , affect the level of employer contributions
Yes, the plan defines the level of contributions
No, turnover, mortality, expected earnings, forfeitures, etc, affect the level of employe contributions
Are plan benefits insured?
Yes, the Pension Benefit Guaranty Corporation insures most benefits
No, defined contribution plans are not covered by PGBC insurance
Yes, the Pension Benefit Guaranty Corporation insures most benefits
Are employee after-tax contributions permitted?
Yes, but rarely
Yes
Yes, but rarely
Are employee pretax contributions permitted?
No
Yes
No
Are in-service withdrawals permitted?
No
Yes, in most cases
No
Are loans permitted?
Yes, but rarely
Loans are a common feature
Are benefits definitely determinable?
Yes, as defined by the plan’s benefit formula
Benefits are not definitely determinable and are dependant upon the performance of plan assets and contribution levels
Yes, as defined by the benefit and interest credit stated in the plan
Are past service credits and retroactive improvements permissible?
Past service and retroactive improvements and subsidized early retirement benefits are easy to recognize
Past service, retroactive improvements and subsidized early retirement benefits are difficult or impossible to recognize
Past service and retroactive improvements are easy to recognize
Can the benefits be integrated with Social Security?
Benefit accruals are easily integrated with Social Security
Social Security integration while permitted, is difficult to achieve
Benefit accruals can be integrated with Social Security
Is the benefit portable?
Generally no, as employees must reach retirement age in order to receive a benefit distribution
Yes, when employees change jobs they can roll their pensions into an IRA or into their new employer’s plan
Yes, when vested employees change jobs they can roll their benefits into an IRA or into their new employer’s plan
For whom is the plan best?
Final pay benefit accrual favors older, longer service career-oriented employees
Generally, the career average benefit accrual treats all employees similarly
For whom is the plan worst?
Employees who change jobs frequently
Career average benefit accruals favor younger, short-service employees and savvy disciplined investors Unsophisticated or undisciplined investors Employees hired later in their careers
How are benefits distributed?
Typically, employees receive a monthly annuity at retirement, although lump sum payments and partial lump sum payments are generally available
Typically, the benefits are paid in a lump sum or partial lump sum with some plans offering monthly annuities as well
Typically, employees receive a monthly annuity at retirement, although lump sum payments & partial lump sum payments are generally available Benefits are also available typically at separation of service
Career employees & older employees depending on transition and grandfathering provisions