Defined benefit vs. defined contribution plans....

This is the topic we're discussing this week in Finance 405 (Retirement Planning). The surface question is: What is the difference between the two? The more interwoven question is, Which one is right for the employee? Well, as we've discovered and discussed, the defined benefit plan is a retirement plan where the employer sets up contributions for the employee and takes so much out of a paycheck. This account cannot be touched until the employee either retires or is terminated. Also, the employer assumes the entire risk for the account.

The defined contribution plan is a retirement plan where the employee can opt to have so much taken out of his or her pay and put into a 401(k) plan, and the employer usually matches it up to a certain percent; however, the risk falls ENTIRELY on the employee and there can be great gains made or great losses suffered as a result of investment choices.

Now we come to the question: Which one does the employee choose? The defined benefit plan is a more stable plan, and it is based on length of service and employees who choose to stay with the employer may opt for this plan vs. a 401(k) plan. The defined contribution plan is more suitable for employees who are probably not as likely to retire with the company and want the ease of rolling over their investments into an IRA or other retirement plan. It is based on age at the time of entry and level of income.

So when you do your retirement planning, get all the information you need about what retirement plans most likely fit your needs. And it always helps to provide a buffer; we know that social security and your retirement plan alone may not be enough to satisfy retirement needs. An additional savings account may be necessary to help bridge some of the financial gaps you may face.