Retirement plans allow you to stop working and live off of your savings. However, you have to save money for your future before you can do this. There are many types of retirement plans to choose from, so you should be aware of your options. Some plans require your monetary contribution to them while others are funded entirely by employers.
A 401k plan is a retirement plan that is sponsored by your employer. This means the retirement account is set up by your employer and you fund the account with contributions. You make pre-tax contributions to the plan, and your employer may opt to match your contributions with a flat percent for all employees, or match you a percentage of your contribution. Some 401k plans, like safe harbor plans, must be funded by your employer and match any contributions you make to the plan. These plans are ideal when you want the opportunity for an employer match and you don't mind tying your retirement plan to your employer.
An IRA is an Individual Retirement Account. These plans may be contributed to regardless of where you work, in most cases. There are employer-sponsored versions of these plans that constitute a savings and match plan, SIMPLE IRA, and a simplified pension, SEP IRA. However, traditional IRAs do not require that you work for any particular employer. This makes them ideal for self-employed individuals or if you simply change jobs often or do not work for employers that offer 401k plans.
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A pension plan is an employer retirement plan funded entirely by the employer in most cases. The employer sets aside money for your retirement. Then, when you retire, a benefit payment is made. You may choose from several income benefit options. Alternatively, you may take your total accumulated pension benefits as a lump sum amount and invest them as you see fit. These plans are essentially beneficial regardless of what other retirement plan you have, since your employer is paying for your retirement.
A non-qualified plan is a plan that is not subject to the rules and restrictions of 401k plans, IRAs and pensions. All of these plans require that all employees receive the same benefits, or benefits which are deemed "fair" for each employee. For example, a 401k that offers a matching contribution must offer the match to all employees. If the plan is offered to one employee, there must be a defined rule for all employees that allows eligibility if certain criteria are met. Non-qualified plans do away with this. Non-qualified plans may discriminate and offer benefits to only one employee or a handful of employees. The plan may offer significant benefits, which other employees are not entitled to. There are no contribution limits to the plan, as there are with 401k, IRA and pensions, but the tax benefits may be limited when receiving money from the plan. These plans are ideal when an employer wants to offer a bonus plan to select employees or key executives and does not have the resources or desire to make the benefit available to everyone.
- "Practicing Financial Planning for Professionals (Practitioners' Edition), 10th Edition"; Sid Mittra, et al.; 2007
- "Ernst & Young's Personal Financial Planning Guide, 5th Edition"; Martin Nissenbaum, et al.; 2004