Types of Retirement Plans

Employers and employees alike may be confused by the several types of retirement plans available. Understanding the most common types of individual and company retirement/pension plans may help you make the best decision for your future.

Basic IRA – this is an individual retirement account that is not started through a business. A taxpayer can contribute up to $4,000 a year in an IRA. For persons 50 years and above, the law provides an increase in the contribution limits applicable to IRAs. This is tax deferred until an individual withdraws money at retirement.

Roth IRA – this emerged on January 1, 1998 due to the Taxpayer Relief Act of 1997. Named after ex-Senator William V. Roth Jr., this is similar to a traditional IRA except that the original contribution is not tax deductible. However, the investment earnings of Roth IRAs are taxed when money is withdrawn at retirement.

Defined Benefit Plan – grants the participant a certain monthly benefit at retirement. This monthly benefit can be an exact dollar amount or is calculated through a formula that takes into account a participants salary and years of service. Investment risk and portfolio management are controlled by the company. There are restrictions on when and how you can withdraw these funds without penalties. DB plans were once popular until the passage of ERISA (Employee Retirement Income Security Act) in 1974.

401(k) Plan – is the most common type of employer-sponsored retirement plan. It is often funded with your before-tax salary contributions with matching contributions from your employer. Both the employer contributions (if any) and any growth in the 401(k) is tax-deferred until withdrawn. Your contribution limit is the lower of the maximum amount your employer permits or the government guidelines.