Recent articles in the Wall Street journal have painted a pretty bleak picture about some major companies? retirement plans in danger of defaulting. This raises an important question-is my retirement plan at risk? The answer to this question is complex and depends on the type of retirement plan your company offers.
To start, let's take a look at the two types of retirement plans most commonly offered by employers.
The Defined Benefit Plan
This type of plan the employer promises a fixed benefit when an employee retires. This is the traditional pension plan. The key point here is that money is set aside by the employer not the employee. Your final salary when you retire and the number of years you worked for your employer usually determines the pension amount you will receive.
The Defined Contribution Plan
These plans specify a contribution that can be made by employers, employees or both. Here, the benefit the employee will receive is not defined. Therefore, the employee is not guaranteed a set income at retirement. A good example of this type of plan is the 401K. The amount of retirement income you receive in a 401K plan depends on the amount contributed, how it is invested and the return the investments provide.
Where's the Risk?
It's the defined benefit plans that are making the news lately and are at risk of default. Why? Because these plans are a promise of a benefit. For some employees, this promise may be fulfilled at a much later date. The money in the plan is not the employee's until it is paid as a benefit. In the decades until these benefits are paid many things can happen. Bankruptcy, company mergers and conversions from one plan to another are things that may not allow an employer to keep their promise.
What happens when a company defaults on a pension plan? Actually there are two types of terminations, standard and depressed. In a standard termination, the most common, the company has enough money to cover all the benefits. In a depressed termination the benefits are guaranteed by a government agency called the Pension Benefit Guaranty Corporation (PBGC) that takes over failed pension plans because the plan assets cannot cover plan liabilities. There is one problem however; upon takeover by the PBGC the participants stop accruing benefits. Also, the PBGC limits payments to a maximum of $45,614 a year. If your benefit check is smaller than that you?re ok. However if your benefit check is higher, you will loose out.
With defined contribution plans such as 401k's which are more common now a days, the situation is different. The money in a 401K is held in trust on your behalf. The company's creditors cannot access money. Theft can be a problem however so it is always a good idea to monitor your statements.
Its important to understand that your retirement is your responsibility not just your employers. Although a defined contribution plan gives you more control it also means more responsibility. In fact the biggest risk in this type of plan may be that the employee will not do a good job investing the money. With this in mind here are a couple of ideas to help you when dealing with your plan. First, understand your plan and if there are any major changes make sure you understand them. Second, monitor your plan closely and make sure that the amount deducted from your paycheck is deposited properly in your retirement plan account. Finally, get help if you need it. A qualified financial advisor can help. He or she cannot guarantee success but he or she can find a suitable investment mix and monitor your investments. That certainly is a step in the right direction. It's easy to see that when it comes to company retirement plans 'the buck stops here? with you.
Securities offered through Linsco Private Ledger a registered investment advisor. Member NASD/SIPC.