Retirement Plans
Retirement plans are normally sponsored by an Employer and designed to meet IRS specifications so contributions may be pre-tax and not result in taxable income to participants.
The types of plans available include:
401(k)
One of the most common retirement plans available today is the 401(k).
The most significant feature of a 401(k) is the ability of employees to contribute their income pre-tax to the plan.
In practice 401(k)'s can be entirely funded by voluntary employee contributions; or both employee and employer contributions. A popular approach is for the employer to make "matching" contributions which encourages employee participation.
Profit Sharing
Another common retirement plan is the basic Profit-Sharing plan. Here employers decide each year how much of a contribution to make. The contribution is allocated to the eligible employees on a pro-rated formula based on compensation. An important feature of the Profit-Sharing plan is the employers ability to vary the contributions every year.
Contributions to a Profit-Sharing plan are made by Employers only. However, Profit-Sharing plans are frequently paired with 401(k) plans so that employees may also elect to make contributions.
Defined Contributions
Under this type of plan, the sponsoring employer commits to contributing a set amount (usually a percent of pay) every year.
Defined Benefit
In a sense the Defined Benefit plan comes at the Retirement plan from the opposite direction of a Defined Contribution plan. Instead of fixing (or defining) the employer’s contribution, the Defined Benefit plan fixes the benefit an employee will receive at retirement age. Employer contributions are then determined based on each employee's age and compensation.
Defined Benefit plans permit the largest contributions per employee.