Money Girl Q&A: What Is a Cash Balance Retirement Plan?
Find out what a cash balance retirement plan is and whether it’s the right choice for you.
Laura Adams, MBA
Q. What is a cash balance retirement plan? I’ve heard of them, but aren’t sure how they compare to a 401(k).
Answer. Cash balance retirement plans can be used by employers—but they’re very different from 401(k)s. To understand their differences, you should be familiar with the 2 main types of retirement plans in the workplace: defined contribution and defined benefit.
A defined contribution plan provides a benefit to an employee that depends on how much he or she contributed to the plan over the years, in addition to the investment gains or losses of the account. This is how a 401(k) or 403(b) plan works.
A defined benefit plan provides a specific value for each eligible employee at retirement, based on factors such as your salary and time on the job. For instance, with a traditional pension plan, you might receive $1,000 a month for life. The employee shoulders no investment risk because they never make contributions to the plan.
However, a cash balance plan is a type of defined benefit plan that provides a specific account balance for each eligible employee at retirement. For instance, you might receive $250,000 if you decide to retire at age 65. You could choose to take the funds as a lump sum or set up an annuity that pays out a fixed amount each year for life.
It’s up to an employer to decide whether to offer a retirement plan and what type. Although the most common retirement plan in the workplace is a traditional 401(k), be sure to participate in any plan that you’re offered. Even if you do have to shoulder the investment risk, retirement plans are a smart way to accumulate a healthy nest egg for the future!
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About the Author
Laura Adams received an MBA from the University of Florida. She’s an award-winning personal finance author, speaker, and consumer advocate who is a frequent, trusted source for the national media. Money-Smart Solopreneur: A Personal Finance System for Freelancers, Entrepreneurs, and Side-Hustlers is her newest title. Laura’s previous book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show.