Pension Plans 101: Types, Benefits, Risks & More

Do you worry about your funds for retirement?

Do you worry that you're not doing enough to protect your money?

Well, you're not alone. Pension plans can help people save for retirement, which is something that many people find hard to do. Yes, you did hear correctly. Pension plans are not just for people who work for the government or for big businesses. They are for anyone who wants to save for retirement and enjoy their older years without worrying about money. In this article, I'll tell you everything you need to know about pension plans, from what they are to how to run them well. So, grab a cup of coffee, take a seat, and let's talk about pension plans.

Key Takeaways

  • There are two main types of pension plans: defined benefit plans and defined contribution plans.
  • Contributing to a pension plan can provide tax benefits and the opportunity to create tax-free income, but there are risks involved, including the danger of running out of money in retirement.
  • Managing your pension plan involves regularly reviewing your savings, setting saving goals and timelines, and understanding your options for defined benefit pensions.
  • When choosing a retirement savings account, it is important to consider your retirement needs, tax implications, and fees associated with the account.

Understanding Pension Plans

Defined Benefit Plans

The first kind of pension plan is one with a set amount of benefits. In this plan, the company guarantees that the employee will always get a certain amount of money every month after retirement, no matter how well the investment pool does.

So, the company has to pay the retiree a certain amount of money based on how long they worked there and how much they made.

The employer is in charge of how the money in the pension plan is invested, and most workers don't have much or any say in how their money is managed.

Defined Contribution Plans

A defined contribution plan, like a 401(k), is the second type of pension plan. In this plan, the employee puts in some of their pay, and the company may put in some of the same amount. The employee is in charge of making decisions about how to spend the money in the account.

How much money the worker gets when they leave depends on how well the investments in the account did.

Unlike with defined benefit plans, the workers decide how to invest the money.

Other Retirement Savings Options

There are other ways to save for retirement besides pensions. If an employee doesn't have access to a pension plan or if the payouts won't be enough to live on in retirement, there are other choices, such as a 401(k) or an individual retirement account (IRA).

A 401(k) is a defined contribution plan that lets workers put some of their salary into an account that doesn't get taxed right away.

Some of the payment may be matched by the employer.

An IRA is a personal savings account that lets people put away a certain amount of money each year without having to pay taxes on it.

Types of Pension Plans

Saving for retirement is a key part of making a plan for your money. There are different kinds of pension plans, and it's important to know what makes them different so you can choose the one that's best for you.

Defined Benefit Plans

Defined benefit plans are pension plans that promise a set amount of money every month for life, no matter how well the investments in the plan do. The company is responsible for making a certain amount of pension payments to the retiree based on how long they worked there and how much they made.

Defined benefit plans are paid for entirely by employers and give workers a set amount each month when they leave.

But fewer companies are offering defined benefit plans.

In 2019, only 14% of Fortune 500 companies offered defined benefit plans to new employees.

Defined Contribution Plans

In a defined contribution plan, the employer agrees to put money away on a regular basis into a pool that will be used to pay eligible workers when they retire. How much money is in the pool rests on how much money people put in and how well the investments do.

401(k) plans and SIMPLE IRA plans are both types of defined contribution plans.

In a 401(k) plan, workers can put some of their pay into the plan, and their employers may put some of their pay into the plan as well.

Both the company and the employee can put money into a SIMPLE IRA plan.

Other Retirement Plans

There are also cash-value life insurance plans, whole life insurance plans, variable life insurance plans, universal life insurance plans, and variable universal life insurance plans. But these plans are not pension plans, and the Employee Retirement Income Security Act (ERISA) does not cover them.

How Much to Contribute

There is no one-size-fits-all answer to the question of how much to put into a pension plan in order to save for retirement. But there are some general rules that can help you figure out how much money you need to save.

Most experts say that you should save 10% to 15% of your pre-tax cash each year for retirement.

Most high earners want to be at the top of that range, while most low earners can stay closer to the bottom because Social Security may replace a higher portion of their income before retirement.

If your company will match your donation, make sure you give enough to get the full amount. If you are 50 or older, you can make an annual "catch-up" donation. Fidelity Investments says that you should save at least 15% of your income (including any contributions from your workplace) each year for retirement.


Rowe Price says that by age 35, a good goal is to have saved one to one-and-a-half times your income for retirement.

By age 50, you will be on track if you have saved three to six times your gross income before retirement.

And by age 60, you should have saved between 5.5 and 11 times your gross income before retirement.

It's important to remember that these are just suggestions. Depending on your own needs, you may need to save more or less. To figure out how much you should save for retirement, you should guess how much money you will need in retirement by looking at how much you spend now.

You should also think about how you want to live when you quit.

If you need to change your retirement plan because costs are going up, you lost your job, or something else is putting a strain on your finances, it might be a good idea to keep in mind some financial rules of thumb.

Tax Benefits and Risks

Both employers and workers can get tax breaks if they put money into a pension plan. Employers can deduct the money they put into approved retirement plans, which lowers the amount of income they have to pay taxes on.

People who work for themselves or for a company can also save money on taxes by putting money into an approved retirement plan.

Contributions to a pension plan save on taxes because they are made before taxes are taken out.

This lowers the amount of income that is taxed for the year.

This benefit is only for regular 401(k) plans, not for Roth 401(k) plans.

Creating Tax-Free Income

One of the tax perks of putting money into a pension plan is the chance to make money that doesn't get taxed. Taxes are not paid on contributions to an eligible retirement plan until they are taken out in retirement.

This can be especially helpful for people who will pay less in taxes when they retire than when they are still working.

The Saver's Credit is a tax credit for qualified contributions to an IRA or employer-sponsored retirement plan.

It can add to the tax savings from putting money into a pension plan.

Risks of Pension Plans

Pension plans are a common way to save for retirement, but they come with risks. One risk is that pension plan funds could be lost if the company that runs the plan goes bankrupt or if the insurance company that pays out payouts goes bankrupt.

But the Pension Benefit Guarantee Corporation (PBGC) offers guarantees for private pension plans that may cover some of the pension.

Another risk is that you might not have enough money when you quit. Lower interest rates can lower retirement income, which can be especially dangerous for people who plan to live off their savings in retirement.

The major risks of a pension contract are investment risk and inflation risk.

Benefits are based on the better of a defined-contribution (DC) and a defined-benefit (DB) formula, so there are more risks for pensioners than there were in the past.

Defined-Benefit vs Defined-Contribution Plans

In traditional defined-benefit pension plans, the company usually takes on the investment, inflation, and longevity risks. In defined-contribution plans, like 401(k)s, the employee takes on almost all of these risks.

Focusing less on pension income and more on return on investment has made it more likely that there will be a pension problem when the baby boomers retire.

The goal of investing pension savings is to get the most money out of them when the person retires, which is required by law.

However, the goal of most savers is to get a decent income in retirement.

This makes it almost certain that savings will not be well-managed, since an investment that is good for building up capital may not be good for making money in retirement.

Managing Your Pension Plan

It's important to know what will happen to your pension plan when you switch jobs. Depending on the type of plan you have, you may be able to take early retirement or get your benefits when you meet the plan's retirement standards.

If you have a cash balance plan or a plan similar to a 401(k), you may be able to leave your retirement money in your employer's plan or move it to another retirement fund.

But you may have to pay taxes if you take your money out of the employer's plan and don't put it in another retirement fund.

Here are some ways to save money and take care of your pension plan:

Review Your Pension Savings Regularly

Reviewing your pension savings on a daily basis is important to make sure that your plan is doing well. This will help you figure out how much money you can expect to get from them when you leave. You can get estimates from all of your pensions, savings, and investments to help you figure out how much money you might get from all of them when you leave, including other savings and investments.

Worksheets for planning for retirement can help you keep track of your money and start a savings plan.

Set Your Saving Goals and Timelines

Set goals and deadlines for saving, decide how much to save each year, and organize your financial papers. You can plan for Social Security retirement benefits and use the claiming age tool to figure out when you will apply for retirement benefits.

The Social Security Retirement Estimator can figure out how much your Social Security benefit will be based on your earnings account.

Roll Over Your Qualified Plan Balance

When you switch jobs, you may be able to move your qualified plan amount to a traditional IRA or another employer-sponsored plan. This is assuming that the amount can be rolled over. Some 401(k) administrators are making it easier for people with small balances to move their money to the plans of their new jobs.

If you leave a job and your 401(k) balance is more than $5,000, your company may let you keep the money in the plan.

Understand Your Options for Defined Benefit Pensions

When you leave a job and have a fixed benefit pension, you can choose between a few things. You can take the money all at once now, or you can wait until you retire to start getting payouts. If you take the lump sum, you'll have to figure out how to spend the money and make it last until you die.

Note the Vanishing of Traditional Defined-Benefit Pension Plans

Traditional defined-benefit pension plans are becoming less common, especially among private companies, but there are still a lot of them around. Contributions from employers and sometimes from workers pay for pension plans.

The biggest group of people with active and growing pension funds are people who work in the public sector, such as government workers.

Why Retirement Planning is Crucial for Your Pension Plan

Hey there, are you thinking about saving money for your future? Well, you're on the right track! But have you considered retirement planning? It's a crucial step in ensuring that your pension plan is sufficient for your needs when you retire.

Retirement planning involves assessing your current financial situation, estimating your future expenses, and creating a plan to save enough money to cover those expenses.

Without proper retirement planning, you may find yourself struggling to make ends meet during your golden years.

By taking the time to plan for retirement, you can ensure that you have enough money to live comfortably and enjoy your retirement.

So, don't forget to factor in retirement planning when considering your pension plan.

For more information:

Retirement Planning 101: Saving for Your Future

Withdrawals and Choosing the Right Plan


In most cases, you can't take money out of your pension plan before you turn 65. Most pension plans won't let you take money out until you're 65, which is the average age when people retire. But some pension plans let you start getting early retirement benefits as soon as you turn 55. If you want to start getting benefits before you hit full retirement age, the amount you get each month will be less than if you had waited.

If you need to take money out of your retirement account before you turn 65, you may have to pay an early exit penalty of 10%. But there are some exceptions to this rule. The IRS doesn't charge the 10% penalty for certain "hardship" payments, such as for expenses after a sudden disability or for unreimbursed medical costs that are more than 7.5% of your adjusted gross income (10% if you're under 65).

The rules for each plan are different, so you should check yours to be sure.

If you can't get the money any other way, a loan might be your best bet. You can borrow up to 50% of your vested account amount or $50,000, whichever is less, from many defined contribution plans like 401(k)s.

But you'll have to pay back the loan with interest, and if you quit your job, you might have to pay it back in full quickly.

Before taking money out of your retirement plan or getting a loan, you should talk to a financial expert and the person in charge of your plan.

Choosing the Right Plan

Several things need to be thought about carefully when picking the right pension plan. The first step is to figure out what you need for retirement. Experts say that you will need 70�90% of your pay before retirement to keep living the same way you did before you stopped working.

Once you know what you'll need in retirement, you can look at retirement savings accounts that will help you make a plan that works for you.

There are many ways to save for retirement, such as Simplified Employee Pension (SEP) Plans, standard IRAs, Roth IRAs, and 401(k)s. SEP plans are perfect for people who work for themselves and want to save for retirement.

Traditional and Roth IRAs are individual retirement plans that anyone who makes money can set up on their own.

401(k) plans are easy to set up and keep up because they are offered by employers.

When picking a retirement savings account, it's important to think about how each account will affect your taxes. Traditional IRAs and SEP plans allow you to make tax-deductible contributions, while Roth IRAs and 401(k)s let you take money out tax-free when you leave.

Also, you should think about the fees that come with each account.

Mutual funds that are actively managed are a popular way to save for retirement, but they have higher fees than index funds that are handled by computers.


Most of the time, it's best to put money into retirement accounts early in the year or every month so that wages can add up as quickly as possible. Some companies give the money all at once when they file their taxes, while others give small amounts at different times during the year.

How much money is "good" for retirement depends on your current way of life, the way you want to live in retirement, your responsibilities, and your health.

Note: Please keep in mind that the estimate in this article is based on information available when it was written. It's just for informational purposes and shouldn't be taken as a promise of how much things will cost.

Prices and fees can change because of things like market changes, changes in regional costs, inflation, and other unforeseen circumstances.

Final analysis and implications

In the end, pension plans are an important way to save money and plan for your future finances. It is important to know the different kinds of pension plans, the tax rewards and risks, and how to run your plan well.

However, it's important to keep in mind that pension plans are only one part of saving for retirement.

It's also important to think about other choices, like individual retirement accounts (IRAs) and 401(k)s, and to start saving as soon as possible.

In the end, having a well-rounded savings plan that takes into account all of your financial goals and needs is the key to a happy retirement.

So, start saving today to make sure you're on track for the retirement of your dreams.

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How Much of Your Paycheck Should You Save? (With Data)

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Links and references

  1. 1. "Government Policy and Personal Retirement Saving"
  2. 2. "What You Should Know About Your Retirement Plan"
  3. 3. "A Lifecycle Analysis of Defined Benefit Pension Plans"
  4. 4. "Retirement Savings and Tax Expenditure Estimates"
  5. 5. "Retirement Planning Software and Postretirement Risks"

My article on the topic:

Retirement Savings 101: Tips & Strategies

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