Just as Social Security is in the process of change, so too are most corporate benefit plans. There was a time when the average “company man” could depend on his or her employer to fund his retirement in an adequate and dependable basis. Unfortunately, this time has passed.
The first step toward the change was with the introduction of the 401 K plan. Many employers switched over to this retirement benefit and did away with the traditional pension. Some chose to balance between the two. And still others stayed the course maintaining a traditional pension plan, despite the obvious financial benefits of abandoning it in lieu of a 401K. Regardless of which retirement plan your employer offers, it is important to know the simple facts about that plan and how it will help you when the time comes to retire.
Pension plans are essentially a “defined benefit” plan, meaning that you most likely received a letter from your employer stating the actual amount you will receive at retirement. This is the type of plan most people refer to as a “pension plan”. The amount stated as your benefit will not change after retirement (other than cost of living/inflation adjustments) unless specified by the plan itself.
Employees are not asked to participate in these types of plans. The method used to calculate the retirement benefit is usually based upon years of service and salary grade. For purposes of planning for your retirement the only thing you need do is ask your employer for a statement of benefits and then use that amount in calculating your financial need upon retirement.
A 401K plan is a type of retirement plan in which the employee is responsible for funding his own retirement. This type of plan is also called a “defined contribution” plan. The “defined contribution” refers to the amount defined by the employer, which they will match, or fund on your behalf.
The fact that this type of plan puts employees in charge of their own retirement is both a blessing and a curse. It is a blessing because it allows you to fund your retirement to the level you see fit within respectable limits. It is a curse because many fail to participate or fund it at such levels that it is inadequate to support their needs upon retirement. Most 401K plans also allows the employee to choose the specific investments in which their money is placed in on a monthly or weekly basis.