Defined Benefit Plan

A defined benefit plan, most often known as a pension, is a retirement account for which the business ponies up all the money and promises the employee a set payout when he or she retires. One of the benefits is that the business can pay the business owner or corporate officer or highly compensated employee the lion share of the total contribution to employees.

Because defined benefit plans are more costly for employers than defined contribution plans, most of them have — you guessed it — scaled back dramatically or eliminated these plans altogether in recent years. That's because the owners hadn't used this plan to fund their own retirement, while providing a smaller retirement for employees.

Defined benefit plans allow the business owner and the employees to just show up for work and, assuming the employees meet basic eligibility rules, they are automatically enrolled in the plan (In some instances, however, they aren't enrolled until they've completed their first year on the job). An employee also needs to stick around on the job for several years — typically five — to be fully "vested" in the plan.

Benefits are calculated based on a formula that takes into account how long you were on the job and your average salary during your last few years of employment. The cash-balance plan credits your account with a set percentage of your salary each year.

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