by V. Kumar

Created on: May 20, 2008

PENSION PLANS are 'DEFINED BENEFIT' retirement plans wherein the beneficiary is assured of a certain 'pension' or 'retirement benefit' paid usually on a regular basis. As is apparent from the name itself, the emphasis is on the 'pension' or the 'defined benefit'. These plans are usually funded by contributions by the employer. Alternatively these plans can also be unfunded, with the pension payments of retired employees being financed by fresh revenue receipts of the employer.

401 (k) PLANS are 'DEFINED CONTRIBUTION' retirement plans wherein the contribution of the employee ( and /or the employer) is defined, but the final benefit is variable (unlike pension, when it is fixed, usually as a percentage of last pay and depending upon the number of years served). These are called 401 (k) because they are regulated by the section 401 (k) of the Internal Revenue Code, which lays down the tax benefits that are available to them along with the rules that need to be followed for availing of those tax benefits.

Both of these plans are employer-sponsored retirement plans that serve to facilitate retirement planning of the employees and are regulated by the usual rules and regulations in this regard. But there are many subtle and significant differences, which make them more or less favorable for certain situations.

PENSION PLANS vs 401 (k) PLANS - A DETAILED COMPARISON

DIFFERENCES:

1. Pension plans provide fixed. pre-established benefits to employees after they retire, 401 (k) plans do not assure any benefits.

2. Pension plans are primarily funded by the employer. 401 (k) are primarily funded by the employees, though there may or may not be contributions from the employer.

3. Pension plans do not define any specified contribution. In case of funded pension plans, the contributions of employer is determined by an 'actuary' and may change from time to time depending on the market conditions. In contrast, contributions in case of 401 (k) plans is specified and does not need intervention by any actuary.

4. Pension plans are usually controlled by the employer, and therefore to protect the interest of employees, they need to be regulated by a third party, an actuary. On the other hand, 401 (k) plans are held as 'individual retirement account' or IRA where the individual beneficiary is in full control, and can also choose the assets in which she wants her contributions to be invested.

5. Pension plans suffer from the risk of employer bankruptcy, which may become a problem even in case

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