Are you leaving free money on the table? The Financial Post recently wrote an article about the key to getting more money when your boss won’t give you a raise. The easiest way to get a bump in compensation is to claim all of your retirement benefits. Each year millions of Canadians are leaving billions of dollars on the table by not taking advantage of “free money.” Let’s take a look at the two main types of pension plans companies offer: defined benefit and defined contribution.
Defined Benefit Pension Plans
If you have a defined benefit pension plan at work, count your lucky stars. Defined benefit plans are considered the cream of the crop of workplace pension plans. As its name alludes to, with a defined benefit pension plan what’s defined – or known in advance – is your retirement benefit. Your pension accrual is based on a pension formula. Although pension formulas differ, it’s typically based on your years of credited service and your salary rate. Defined benefit pension plans reward loyalty. The longer you work for a company, the better your pension will be.
Defined benefit plans provide income stability in retirement. Traditional defined benefit plans make financial planning a lot easier – retirees know in advance what their retirement income will be. Unfortunately, defined benefit pension plans are a dying breed. With defined benefit, the employer bears the brunt of the risk. As such, employers have been switching to defined contribution and group RRSPs in recent years.
Defined Contribution Pension Plans
With a defined contribution pension plan, the thing known in advance is the employer contributions. Defined contribution pension plans have become popular in recent years for a number of reasons. Unlike defined benefit, you have greater control over your investments – you’re able to pick and choose your investments.
It’s a well-known fact that high management fees can hinder investment performance – with defined contribution plans you’re typically able to purchase investments with much lower fees. Defined contribution pension plans are often appealing to younger workers, who are a lot less likely to stay with a single employer throughout their working career.
Defined contribution plans aren’t without their downsides. Although your contributions may be known in advance, your income in retirement is based on how your investments perform. Instead of the employer bearing most of the risk with a defined benefit pension plan, the risk is shared between the employer and employee. If your investments perform poorly, you may have to delay your retirement by a few years or scale back your lifestyle.
Unlike defined benefit pension plans, your pension is accrual is based on how much you contribute. Most defined contribution pension plans offer matching contributions. For example, you may be able to contribute up to 6 percent of your salary and receive a match from your employer. If your employer offers matching, take advantage of it. That’s like a 100 percent return on your investments – it doesn’t get any better than that! Sadly, many Canadians aren’t listening to this advice. Sun Life estimates $3 billion a year is not collected by employees from employer-matching pension benefits.
Defined contribution and defined benefit pension plans aren’t always easy to understand. If you need help figuring out your pension plan, feel free to contact our office. We can sit down with you and help you determine if your workplace pension plan is sufficient to cover your income in retirement.
