Defined benefit plans, commonly referred to as pension plans, are becoming less and less popular in the private sector. Meanwhile, union workers and public sector jobs continue to provide pensions for employees. If most other industries have gotten rid of pensions, why do first-responders still have them and how should they play into retirement planning?
This article will answer common questions about pensions for first responders as well as explore how they fit into your overall retirement roadmap.
What is a Pension?
A pension is often used to refer to a retirement plan option, of which there are two types: a defined contribution plan and a defined benefit plan.
1. Defined Contribution Plan
A type of pension in which an employee, employer, or both contribute to an employee’s retirement plan is considered a defined contribution plan. This may sound familiar if you’re well-versed in 457 plans. These plans rely on the returns of investments that are chosen within them.
2. Defined Benefit Plan
More commonly referred to as a “pension” is a defined benefit plan. These offer automatic payouts during retirement, based on a formula that takes into account details such as your salary and years of employment.1
Are Pensions on the Way Out?
In the last few years, there has been a significant uptick in pension freezes and terminations. In 1998, 59% of Fortune 500 companies offered pension plans. In 2019, that number dropped to just 14%.2 Today, most pensions are held by union workers and public sector employees.
There is one main reason employers have been dropping pension plans: they’re more expensive than 457s. Since retired employees receive a set amount until death, the risk of market downturns is placed on the employer. In 457s and IRAs, the individual takes on the risk and is beholden to market volatility.
Pension vs. 457
Considering that pensions are becoming a thing of the past, it’s important to understand why the change is occurring and what the differences between these plans may be. The most notable of which is that 457 plans are defined contribution plans while pensions are defined benefit plans, as noted above.
With a 457, you’re able to contribute a dedicated amount of money throughout your career and you can withdraw the money however you’d like within your retirement. On the other hand, a pension plan allows you to receive guaranteed payments following your retirement, up until your death.
With pension benefits, you are typically well aware of the amount you’ll continue to receive for the rest of your life. Whereas a 457 plan alters the amount you have in retirement, depending on how much you have contributed during your employment.
Maintaining a guarantee of lifetime income means that many prefer pension plans over 457 plans. Alternatively, some may prefer the increased control that coincides with a 457.
When all is said and done, there are benefits to both pension plans and 457 plans. If you have a 457, maxing out your employer’s match is a great way to put yourself ahead of the curve.
What is an Underfunded Pension Plan?
An underfunded pension plan has more liabilities than assets. Pension plans are subject to the same market volatility that other retirement plans experience, but aren’t as flexible when it comes to payouts. If the market is in a downturn, a pension plan is more likely to be underfunded.
Underfunded pension plans also happen when a company or city underestimates its liabilities and overestimates market returns. If a pension plan continues to be underfunded for multiple years, the employer may elect to increase employee or employer contributions to cover the deficit.
How do Pensions Play Into Retirement Planning?
Your pension may not cover all of your needs in retirement, especially considering many first-responders have to retire early due to the physically demanding nature of their jobs. If you’re worried about income in retirement, consider utilizing additional savings vehicles like IRAs and 457s.
Achieving a Successful Retirement
Don’t rely on DIY investing. Retirement preparation can be confusing and overwhelming, which is why it’s important to remain informed about your options and the changes that are taking place. Make sure you understand how your pension AND 457 Plan work together to achieve a successful retirement lifestyle.
Talking to a financial advisor is a great way to gain more insight and understanding about the details of your finances and explore the possibilities available to you. Schedule time to explore your options with our team of professionals.
This content is developed from sources believed to be providing accurate information, and provided by Twenty Over Ten. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security.