Knowing that you should be contributing to a retirement plan is one thing; picking out the right retirement plan for you is another. There are numerous retirement plans to choose from today, so let’s look at a few of them and what they are all about.
There are two different types of Individual Retirement Accounts, Basic IRAs and Roth IRAs. Neither of these two retirement accounts is started through an employer, but is the responsibility of the individual. These retirement accounts are often used to roll company retirement accounts into, so the transfer is not taxed.
Each year after 2010, the maximum cap goes up in $500 increments each year to account for inflation. These contributions are tax deferred until the individual withdraws the money at retirement.
Roth IRAs were started in 1998 as a result of the Taxpayer Relief Act of 1997. The main difference between a Roth IRA and a Basic IRA is when the money is taxed. Where Basic IRAs are taxed when the money is pulled out of the account, a Roth IRA is taxed when the money is put in. This allows for the taxpayer to withdraw all of the funds at retirement without being taxed on the lump sum of money.
Defined Benefit Plans
Defined Benefit plans, (DB) are employer-sponsored retirement plans that hold monthly benefits for the taxpayer at retirement and can only be contributed by the employer. These benefits can be set at a specific dollar amount each month or can be calculated with a formula based on years of service and retirement salary. Since ERISA in 1974, many employers have moved from Defined Benefit plans to Defined Contribution plans.
Defined Contribution Plans
Unlike Defined Benefits plans, Defined Contribution plans (DC) allow the employer, employee, or both, to contribute to the employee’s account. These investments usually come in the form of mutual funds or stock in the company and as a result, your retirement account is usually directly linked to the performance of the mutual funds or how well your company stock does.
There are numerous types of Defined Contribution plans that your employer can contribute to on your behalf, including a 401(k), profit sharing, Saving Incentive Match Plan for Employees (SIMPLE), ESOP plans, and SEPs. These plans all have different stipulations on what an employer can add and how often it can be changed, but they all must be employer sponsored.
No matter what route you decide to go to plan for your retirement, whether it is an individual retirement plan of an employer sponsored retirement plan, the biggest thing is that you are planning. There is a different plan or set of plans for every person in every situation, so work with your local retirement planner to figure out what will be best for you in the end.