- Senior Living
Make Your Retirement Work for You: Pension vs. 401k
Are you looking towards retirement in a few years? Maybe you have already retired from work, downsized, and enjoying your freedom. Whatever stage you're in, you'll always need to examine your finances and make necessary adjustments. Planning for retirement early is best, but it's never too late to start. We'll look at the differences between a pension vs. a 401k and how you may be able to maximize your retirement options.
What is a Pension Plan?
A pension plan is an employee benefit where an employer makes monetary contributions to a fund. The employer promises to pay the eligible employee a certain amount after retiring. Pension plans are more likely to be offered in unions, government positions, and the public sector. However, these traditional pension plans are harder to come by as an employee benefit.
What are Public Pensions Plans vs. Private Pensions
The difference between public and private is public pension plans are from the federal, state, or local governments. In comparison, private pension plans come from private companies. Private pensions are rarely offered today.
- Pension plan is a retirement plan where the employer makes contributions.
- A pension manager determines the funds or investments.
- Funds can be accessed in the future when you retire.
- Payouts occur throughout the pensioner's lifetime.
What is a 401(k)
A 401(k) is a retirement investment option offered by many employers in the US. A 401(k) has tax advantages, making it attractive as part of a retirement investment package. When you start a new job, you may have the option to sign up for the company's 401(k) plan. Employees agree to have a certain percentage of every check paid into the 401(k). Some employers will match a certain amount. Most investments are in the way of mutual funds.
There are two types of 401(k) – traditional and Roth. The differences between the two are in how they are taxed.
- A Roth is created with after-tax income.
- Traditional are created with pre-tax income.
Lastly, there are limits to how much an employee can contribute to a 401(k). The IRS has made adjustments for the 2021 and 2022 plans. Check with your company's fund manager for up-to-date contribution amounts.
The main takeaways with a 401(k):
- Funds are taken from an employee's pay (but may be matched by an employer)
- Money is distributed into investment funds.
- More flexibility with 401(k)s but greater risk.
- At retirement funds, only last until the money runs out.
Which is Better, a Pension Plan or a 401(k)?
Both pensions and 401(k) have their pros and cons. If you have a pension now, you are protected by the Pension Benefit Guaranty Corporation. This means the PBGC will (in most cases) pay if your employer goes out of business or can't pay retirees. Pensions, as stated earlier, are becoming rare and harder to find as a benefit. A 401(k):
- Offers portability – if you leave your company, your investments can be rolled into an IRA or 401(k) at your new company.
- Gives employees more flexibility in how funds are managed.
Both plans have their benefits and downsides. It will depend on you and your situation to determine what's important.
Is One Plan Safer Than the Other?
Generally speaking, a 401(k) may present greater risk since many pension plans are protected with PBGC. With a pension, you are guaranteed a certain monthly amount for life during retirement. If you don't have a large 401(k) at retirement, it could run out of money early.
What Happens When I Quit?
There are numerous scenarios for your 401(k).
- If you quit your job before retirement, your 401(k) will be converted into an Individual Retirement Account (IRA).
- You could also cash out your 401(k), but you will incur tax penalties.
- If you are taking another job, your old 401(k) could be moved into the new company's 401(k) plan.
- You could leave your old 401(k) with the past employer indefinitely.
You'll need to check with your company for specifics on how they manage an outgoing 401(k).
The options for how your pension is managed if you leave your job before retirement includes:
- Taking the money out as a lump sum amount.
- Opting for regular payments in the future
Many companies have forfeit clauses regarding pensions. That is, if an employee quits and has only been at the job for five years or less, they lose all benefits of the pension. Check with your HR department on details surrounding terms and tenure.
Retirement Investment Options and Senior Living
Financial matters and planning are crucial during the retirement years, before, during, and after. Life Care Services have a variety of senior living communities that can work with your budget and retirement plans. If you have financial questions regarding any of the LCS communities, contact us today.