What You Should Know About Retirement Planning

Retirement plans have an increasingly important role to play in terms of providing an income source in our later years. You have probably already heard of the concept of the "three-legged stool" of retirement, which symbolizes how Social Security, personal savings, and company retirement plans form the triad upon which we can derive funds to pay for our expenses later in life.

These plans actually serve many other purposes for both employers and employees, and they come in quite a few different varieties. Surprisingly, very few people really have a clear understanding of the plans that they have in use, despite the important role that they play in our lives. In order to clarify these issues regarding retirement plans, some of the more common plans are discussed below.

Qualified Retirement Plan. This type of plan meets the various requirements of the Internal Revenue Code or IRC, as well as the Employee Retirement Income Security Act of 1974 or ERISA. Retirement plans that conform to these requirements are qualified for a number of considerable tax benefits, some of which are tax deductible contributions on behalf of plan participants in the year that these contributions were made, the exclusion of contributions and earnings from taxable income until the year of withdrawal, the non taxation of earnings on the funds held by the plan's trust, and the delay of taxation on a plan's benefits by the transferring of those amounts into other tax-deferred plans such as IRAs.

Nonqualified Retirement Plan. These types of retirement plans do not meet the requirements of the IRC or ERISA, may be discriminatory in their usage and are typically used for providing deferred compensation to certain people. Since these types of retirement plans provide greater flexibility to employers, they are not usually subject to the same favorable tax treatments that qualified plans are given. Furthermore, employers are not eligible for tax deductions until the time when the employee receives the proceeds from the plan.

Defined Benefit Plan. This type of retirement plan is what is commonly known as the traditional company pension plan, so called because of the definite and determinable nature of the ultimate retirement benefit as a dollar amount or a percentage of the employees wages. A calculation of a combination of the years of employment, the wages, and/or age the age of the employee is typically used in order to determine these amounts.

Defined Contribution Plan. In a defined contribution plan, the contribution is defined, although the ultimate benefit that is to be paid to the employee is not, and each one has an individual account. The benefit that the employee will can gain upon retirement will depend on the amounts that he or she has contributed as well as the accounts investment performance throughout the years.

Individual Retirement Account or IRA. This type of retirement plan is a personal retirement savings plan that is available to any person of any age, who receives taxable compensation during the course of a year.

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