What is a Defined Benefit Plan?

• A defined benefit plan, or DB plan, is a plan qualified under Section 401(a) of the Internal Revenue Code that expresses an individual's benefit as a certain amount to be paid once an employee reaches retirement. DB plans provide what are known as traditional pensions. These plans do not establish individual accounts for each participating employee and essentially serve as a pooled trust that will provide a monthly payment. In most cases this is an annuity, as fixed sum for the life of the retired employee and his or her surviving spouse once the retired employee passes away.
  
  

Benefits of a Defined Benefit Plan

• If you are a participant in a DB plan, the benefit is the stability of knowing what your benefit will be at retirement. Usually this amount is increased for cost of living adjustments as well. Since the employer is guaranteeing a certain amount as a benefit in a defined benefit plan, the employer bears the investment risk. This means that if the pooled trust has better investment returns than actuarially expected, then the employer will receive the benefit of that windfall; however, if the trust's investments perform worse than expected, the employer will have to contribute more money to the trust. If your employer terminates the plan with insufficient assets, DB plans are insured by the federal government through the Pension Benefit Guaranty Corp., which guarantees up to a certain amount of your benefit.
  
  

What is a Defined Contribution Plan?

• A defined contribution plan, or DC plan, is an account-based retirement plan and is now the predominant type of employer-sponsored retirement plan. The most common types of DC plans are 401k plans, 403b plans or SIMPLE IRA plans. This type of plan does not provide for a specific dollar amount at retirement. Your retirement benefit is based on the amount that is in your account when you retire, which is the sum of your contributions and your employer's contributions, modified by your investment earnings or losses. This places the investment risk on the employee, so defined contribution plans are considered less stable than DB plans.
  
  

Benefits of a Defined Contribution Plan

• Employers prefer defined contribution plans because they are easier to administer than DB plans and they also are less expensive since the participants shoulder the investment risk. These plans are preferable for employees who change jobs often as they are portable and generally can be rolled over.