Retirement Benefit Terms
Vesting: Vesting refers to the amount of time a participant must work before earning a non-forfeitable right to a retirement benefit. Once the participant is vested, the accrued benefit is retained even if the worker leaves the employer before reaching retirement age. Vesting schedules apply only to employer contributions; employee contributions (including pretax contributions) are always 100 percent vested.
Retirement Plan Types
- 401(k): A defined contribution plan offered by a corporation to its employees, which allows employees to set aside tax-deferred income for retirement purposes, and in some cases employers will match all or some of their contribution dollar-for-dollar. Taking a distribution of the funds before a certain specified age will trigger a penalty tax. The name 401(k) comes from the IRS section describing the program.
- 403(b): A retirement plan similar to a 401(k) plan, but one which is offered by non-profit organizations, such as universities and some charitable organizations, rather than corporations. There are several advantages to 403(b) plans: contributions lower taxable income, larger contributions can be made to the account, earnings can grow tax-deferred, and some plans allow loans. Contributions can grow tax-deferred until withdrawal at which time the money is taxed as ordinary income (which is sometimes a disadvantage).
- Savings and Thrift Plans: Employees may contribute a predetermined portion of earnings (usually pretax) – all or part of which the employer matches – to an individual account. Employers may match a fixed percentage of employee contributions or a percentage that varies by length of service, the amount of employee contribution, or other factors.
- Deferred Profit Sharing Plans: A defined contribution plan under which a company credits shares of company profits to participating employees’ accounts.
- Employee Stock Ownership Plans (ESOPs): The employer pays a designated amount, often borrowed, into a fund which then is invested primarily in company stock. Any debt incurred in the purchase of the stock is repaid by the company. Stock then is distributed to employees according to a formula.
- Individual Retirement Accounts (IRAs): An IRA is a retirement savings plan. There are several types of IRAs: Traditional IRAs, Roth IRAs, Simplified employee pensions (SEP) IRAs, and Savings-incentive match plans for employees (SIMPLE) IRAs. Traditional and Roth IRAs are established by individuals who are allowed to contribute earnings up to a set maximum dollar amount. SEPs and SIMPLE plans are retirement plans established by employers.
- Simplified Employee Pensions (SEPs): An individual retirement account (IRA) is established for each eligible employee. The employee is immediately vested in employer contributions and generally directs the investment of the money. These arrangements are sometimes called SEP-IRAs. Savings-incentive match plans for employees (SIMPLE plan).