Determining Retirement Contributions and Benefits

If we look at defined benefit plans, it has a slumped down popularity among business owner in recent years. It is more like traditional pension plans where the plans are altogether financed by the employer. Annual contributions founded on actuarial computations involving employer’s years of service and salary are set aside for employees.

Employers offer a fixed retirement benefit based on three characteristics:
• Salary, usually the last five years when earnings are larger
• Age at retirement
• Years of service to the company

Because of these characteristics, you can maximize the amount of your fixed benefit by delaying your retirement and, thus, adding to your years of service with the company. Sometimes staying on the job only a few more years can increase your benefit substantially — in some cases, you can even double it.

The defined benefit plan provides each participant with a specific benefit, calculated according to a formula set forth in the plan. The formula takes into consideration the following factors:

• The entire employee population
• Their vesting percentages (vesting is the process that entitles you to full rights to your benefits over a specified period of time)
• Their years of service
• The overall turnover rate

The professionals who manage the defined benefit funds can accurately estimate the cost of benefits at future dates. From those projected future costs and life expectancy estimates, they determine the amount of contribution the employer must make each year to fund the benefit.

The employer has to make its contribution to the defined benefit plan even if the company has done poorly and profits are down. And as employee, you can catch up contribution to match your employer defined benefit plan.

As with any qualified retirement plan, employees don’t pay taxes on the money the employer contributes for them or on the investment returns until the employee actually withdraws the funds.

Many companies with defined benefit plans also offer 401(k) plans to employees who want to save more for their retirement by using a salary deferral arrangement.