Life and Death Planning for Retirement Benefits

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Life and Death Planning for Retirement Benefits

D. Estate planning features. From an estate planning perspective , the DB plan has the following distinctive features.

First, the participant does not have an “account” in a DB plan the way he does in a DC plan. Even under a cash balance DB plan, though the plan’s funding formula is determined by reference to a hypothetical “account” for each employee, the participant does not have an actual account in the plan. The benefit statement for a classic DB plan will typically say the employee’s “accrued benefit” under the plan is ( e.g. ) “$1,450 a month,” of which (say) “80 percent is vested.” What this means is that the employer has already obligated itself to provide for this employee (if the employee keeps on working until retirement age) a pension of $1,450 per month for life starting at the employee’s “normal retirement age” under the plan (usually 65); and if the employee quits right now , he’s vested in 80 percent of that, meaning that at normal retirement age he would receive 80 percent of $1,450 per month. The benefit statement may or may not contain more details such as: how much of a pension the employee would receive if he retired early; and (of great significance in estate planning), whether the employee will be permitted upon retirement to withdraw the lump sum equivalent of the accrued pension, or what death benefit, if any, would be available for the employee’s beneficiaries. This brings us to the second significant factor in planning for DB pension benefits: Many DB plans do not offer the option of taking a lump sum equivalent in cash (or the client may have already chosen an annuity option and foreclosed his ability to take a lump sum equivalent). Thus under some DB plans there is no ability to “roll over” the benefits to an IRA. Also, a DB plan may provide no benefits at all after the death of the employee other than the required annuity for the surviving spouse ( ¶ 3.4 ). If the participant dies prematurely, the money that was set aside to fund his pension goes back into the general fund to finance the benefits of other employees, rather than passing to the deceased employee’s heirs. A Defined Contribution (DC) plan is, along with the Defined Benefit plan, one of the two broad categories of qualified retirement plan (QRP). DC plans are also called “individual account plans.” § 414(i) . IRS regulations use the terms individual account plan and defined contribution plan interchangeably; thus even individual account plans that are NOT QRPs (such as IRAs and 403(b) plans) may be considered DC plans. Under a DC plan, the employer may commit to making a certain level of contribution to the plan (such as “10% of annual compensation,” an example of a money-purchase plan formula), or (under a profit-sharing plan) may make such contributions periodically on a discretionary basis or based on profit levels. 401(k) plans and ESOPs are other examples of DC plans. Once the employer has contributed to the DC plan, the contributions are allocated among accounts for the individual participants who are members of the plan. What the participant will eventually receive from the plan is determined by (1) how much is allocated to his account under the contribution formula and (2) the subsequent investment performance of that account. The employer does not guarantee any level of retirement benefits. If the plan’s investments do well, the profits will increase the participant’s account value. If the plan’s investments do poorly, the participant will receive less at retirement. What a “Defined Contribution plan” is