Private pension benefits are retirement benefits that are paid out to employees of companies in the private sector. These benefits are funded by employers and paid to employees when they retire from the company. A company can pay out two types of pension benefits to its employees.
A defined benefit pension is any pension plan that promised a specific pension benefit in the future. This pension benefit is stated at the outset of your participation int he pension plan. All contributions to the pension are made by the employer and are insured by an insurance company. The benefits must be paid out to you at the stated rate and the employer must make the contributions to the plan as promised.
A defined contribution plan is a pension where no benefits are promised. Instead, a contribution amount may be promised. You may contribute to the plan, along with your employer. Alternatively, your employer may make all of the contributions or may leave all contribution responsibilities up to you. The contributions are invested in a wide range of investments, which may or may not pay a guaranteed rate of return. When you retire, you get whatever is in the pension plan.
The benefit of defined benefit plans is that you know, in advance, what your benefit will be. There is no confusion or uncertainty about your future benefits. The benefit of a defined contribution plan is that you may end up with more money than a defined benefit plan if the investments in the plan perform better than the defined benefit pension investments.
The disadvantage to a defined benefit plan is that the plan requires substantial contributions from the employer. The employer must have significant cash resources to pay for the plan. Even with substantial financial resources, the plan is guaranteed by insurance companies and necessarily pays a low rate of return. This naturally limits what the pension plan may earn. The disadvantage of a defined contribution plan lies in its uncertainty. There is no way to know what future benefits will be.
- "Practicing Financial Planning for Professionals (Practitioners' Edition), 10th Edition"; Sid Mittra, et al.; 2007
- "Life Insurance"; Kenneth Black, Jr., et al.; 1994
- IRS.gov: Publication 575; Pension And Annuity Income
Disadvantage of Being a Private Limited Company
Private limited companies can't trade on a stock exchange, face more legal obligations and have higher costs than other organizational structures.
Social Security & Private Pensions
Social Security retirement benefits are based on a pay-as-you-go system, paid out in the form of employer payroll taxes. In contrast, private...