Defined Contribution Plans

Defined contribution plans have found favor with employers over the years as an alternative to defined benefit plans. Defined contribution plans are a plan in which the employer specifies where the money will be deposited and often gives the employee the power to decide how the money will be invested with the retirement income being a function of how well money put into the plan was invested

Under a defined contribution plan, the amount of retirement income is a function of how well the money put into the plan was invested. The employer specifies where the money is to be deposited, sometimes providing several options of places, and often gives employees the power to decide how that money is invested within a place.

A 401(k) plan, named after the section of the IRS code that permits these plans, allows employees to defer receiving some of their compensation until retirement. The money contributed by the employee is taken out of the person’s paycheck pretax, and it accumulates tax free until the person retires. Only when a person begins withdrawing the funds upon retirement is he taxed.

When it was passed in 2006, the Pension Protection Act (PPA) was referred to as historic and groundbreaking. The legislation resulted in large part from the increase in the number of firms that were turning their pension plans over to the U.S. Pension Benefits Guaranty Corporation because they could not afford to pay the pensions. The Act was designed to strengthen the U.S. pension system.

The Act requires employers to pay more attention to how they are managing these funds, particularly if they have underfunded their pension plan. It also raises caps so that employers can set aside more money when the economy is doing well to offset the fact that less money goes in at other times.

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I do wish that employers would do more research on what employees want when setting up their plans. My team can not use any kind of technical analysis of charts to decide which of the offered investment opportunities would be fit their timeframe. In many cases, the vendors have the tools but do not offer them to the negotiated plan.