We can’t talk about employee benefits without retirement. Sometimes it’s really hard to even think about tomorrow, much less retirement, if you’re struggling today. Retirement benefits are worth thinking about because they can be an important source of financial gain for you and your family both today and in the future.
Let’s take a look at the common types of retirement benefits. For more detailed information see the Employer Plans pages in the Retirement Savings Account section.
Defined Benefit Plan
The first is called a defined benefit plan, or what we know as a traditional pension plan. Your employer defines your benefit based on the number of years worked and wages earned. When you retire, the company pays you a percentage of your wages every month. For example, a plan might pay you an annual retirement benefit of twice the number of years worked as a percentage of final income. So, if you work 25 years x 2 = 50% of your final wages!
Employers usually pay the entire cost of this plan, and they are expensive. Because of this, many companies no longer offer such lucrative benefits, are cutting back on benefits, or require non-voluntary employee contributions. So what are they offering in its place?
Defined Contribution Plans
Instead, companies are offering ‘defined contribution’ plans which are actually employee savings plans. You define the contribution you make from each paycheck into the plan and how this money is invested. When you retire, you can take the money out of the plan to pay your living expenses. You may be familiar with these plans as they are named after the section of the tax code where they were created: 401(k)’s for corporations, 403(b) for non-profit organizations, and 457‘s for government employees.
You may not think these plans are such a ‘benefit’ after all because you have to do the saving and planning, not your employer. If you don’t save, you may not have enough money to live on during your retirement years. However, there are many good reasons to participate in these plans.
1. By making contributions into your employer retirement savings plan, you are making an important commitment to your future. You are taking control of its direction and are choosing a promising path.
2. It’s automatic. Contributions are made directly from your paycheck. You don’t have to think about it!
3. Your employer may match your contribution. For example, an employer may add $1 into your account for every $2 you put in. That’s like getting a 50% bonus on your money!
4. You can also take advantage of compound interest. Because these accounts are designed to keep you invested, or more simply not take money out, the money earned on your contributions can earn money too, and that money earned can earn money too, and so on and so forth. We’ll discuss compound interest in more detail in Module IV: Make Money Work.
5. The last top reason to participate in a retirement savings plan is that the money put in is ‘pre-tax’ money; in this case federal taxes are not paid on these wages-yet. When you take money out at retirement, then you pay federal income taxes on it. So, your federal taxes are “deferred” to a later date, when most retirees have a lower income tax rate.
Other Plans
Other retirement plans such as profit sharing and employee stock ownership plans (ESOP) are paid by the company. Contributions to a profit sharing plan on your behalf are based on how well the company performs. ESOP programs allow employees to purchase stock in the company directly. Both programs act as a motivation to work harder so you can share in the company’s success.
Other Retirement Benefits
Lastly, some of your current benefits, such as health insurance, product discounts, and memberships may continue even after you retire. These too are becoming less common as they can be very expensive to the company.
Next up: Cafeteria Plans
