Millions of American workers save a portion of their earnings inside employer-sponsored retirement plans such as a 401(k), 403(b), 457 and other plans that allow their participants' contributions to grow on a tax-deferred basis. And while the aforementioned plans are by far the most common, they are not the only types of retirement savings plans in use. This article explores some of the less common retirement plans that some employers have opted to use in lieu of the mainstream plans. (To help you find a retirement plan that works for you, check out Which Retirement Plan Is Best?)
In reality, virtually all qualified defined-contribution retirement plans can be referred to as 401(a) plans, because paragraph A of Section 401 in the Internal Revenue Code lays out a boilerplate type of plan and set of rules that all subsequent plans in the code (such as 401(k) plans) must adhere to. It is not mandatory that employee deferrals be allowed in 401(a) plans; therefore, these plans are commonly used as funding vehicles for profit-sharing or money-purchase pension plans that are funded entirely by the employer, often entirely with company stock. They resemble their 401(k) cousins in most other respects, such as vesting schedules, contribution limits and tax treatments and provide essentially the same benefits as the more mainstream plans. However, they do also allow for different levels of benefits to be paid to various groupings of employees; they do not have the strict nondiscrimination rules that apply to other types of plans. Many educational and not-for-profit entities use these plans to provide additional compensatory benefits to teachers and educators that exceed what they can give in a 403(b) or 457 plans.
Commonly known as Welfare Benefit Plans, these plans essentially function as a funding vehicle for insurance benefits that employees can use after they stop working. These versatile plans allow employers to determine a group of insurance benefits for their employees, and then make contributions into these plans for the employees during their working years in much the same fashion as they would make matching retirement plan contributions for them in a qualified plan. The benefits that are funded in the plan are then activated for the employees when they retire, and provide various forms of insurance coverage after they stop working. 419(e) plans can offer a variety of benefits such as life, health, supplemental disability, health, dental and Medicare supplemental insurance. These benefits can differ or complement the benefits that the employees have during their working years, depending upon how the plan is set up.
These plans can obviously provide a substantial overall benefit for employees who would otherwise have to pay for these benefits themselves when they retire, or else do without them. Employers that fund these plans can also take substantial current tax deductions for their contributions, although contributions may not always be completely deductible, depending upon various factors. Plan contributions are irreversible and must be held by an independent trustee, which makes them generally exempt from creditors. Contribution and benefit levels must be calculated and certified each year by an independent actuary that is hired by the plan administrator. These calculations are based upon the number of employees covered and their projected retirement ages and longevity.
These plans must also be nondiscriminatory in nature (although the contributions for key employees are usually separated from the rest of the company) and have no vesting schedule; employees automatically become eligible to receive benefits when they reach a specific age (such as 65) that is specified in the plan. Of course, the cost of these plans can be quite high and is generally appropriate for small firms that employ or wish to recruit a handful of long-term employees, such as a private medical practice. Employers that use these plans must take care to follow the regulations of the Internal Revenue Service (IRS) to the letter in order to ensure the deductibility of their contributions each year. If the company becomes financially unable to make the required contributions, the policies in the plan will lapse and employees will lose their benefits.
Voluntary Employee Beneficiary Associations (VEBAs) represent a group form of welfare benefit plan. VEBAs are essentially a pooled version of the welfare plan that allows different employers to merge their benefits accounts into a single entity. They closely resemble their individual welfare benefit cousins in terms of tax treatment, segregation of assets and rules pertaining to contributions and distributions from the plan. The key criterion that all VEBAs must meet is that the beneficiaries must share a common grouping of some sort, such as the same employer, labor union or collective bargaining agreement. The Big Three automakers created the world's largest VEBA in 2008 when they merged the benefits plans of each company into a single plan that now holds around $45 billion in assets.
SERPs - 457(f) Plans
Commonly referred to as "top-hat plans," Supplemental Executive Retirement Plans (SERPs) are a form of nonqualified deferred compensation plan that are funded solely by the employer. Like most nonqualified plans, these plans are designed solely for highly compensated or key employees and provide a supplemental level of retirement benefits to the employee as long as certain conditions are met, such as the employee remaining with the company until retirement or refraining from working with a competitor. Benefits are often funded with cash value life insurance, and grow tax-deferred until they are paid out when they are reported as taxable compensation to the retiree and become deductible for the company. SERPs have been criticized by some as providing excessive compensation to the favored few in a company, at the expense of the majority of employees.
Designed solely for public governmental employees, this special type of money-purchase pension plan makes both employer and employee contributions into the plan that grow on a tax-deferred basis until retirement. These plans typically have a "pick-up" provision in them that permits employers to put employee contributions into their accounts on a pretax basis in the same manner as a 401(k), or other traditional plans. Vesting is always immediate and employees who leave to work for another employer may roll this plan into their new employer's plan, as long as it accepts rollovers.
The Bottom Line
Although these plans are much less widely used than their mainline counterparts, they fill a specific niche for employees in certain situations that can be hard to duplicate using other means. However, they are often costly to fund and administrate and can lose their tax-advantaged status if IRS regulations are not followed to the letter. For more information on these plans, visit the IRS website or consult your financial or benefits advisor. (For more ideas on how you can add to your retirement, check out 5 Ways To Fund Your Retirement.)