Defined Contribution

Plans with variable benefits, such as 401(k), 403(b), 457, Roth

Defined Contribution plans are based upon employee contributions to for-profit companies or not-for-profit companies and may be pre- or post-tax. 401(k), 403(b), 457, and Roth Plans are all considered defined contribution plans and allow employees to direct a portion of their pay on a tax-deferred basis. Employees can either defer the maximum amount provided by law (adjusted each year by the IRS) or a plan-imposed limit. If a participant is 50-years of age or more, they may be allowed to contribute an additional amount.

Profit Sharing Plans

A profit sharing plan is a type of defined contribution plan that generally offers the most flexibility. Company contributions are usually made on a discretionary basis and do not have to be based upon actual corporate profits. Additionally, allocations to individuals may be customized. For tax deduction purposes, a company’s contribution cannot exceed 25% of the eligible compensation of all eligible employees. However, the IRS does limit the maximum eligible compensation that can be considered for any single employee. Some examples of profit sharing formulas are:

  • Flat percentage of pay: Everyone receives the same percentage
  • Pro-rata percentage of the contribution: The contribution is allocated based upon an individual’s percentage of pay as compared to all eligible compensation
  • Contributions integrated with Social Security: Participants receive a flat “base” percentage of pay, while those earning over the Social Security taxable wagebase receive an additional percentage on this “excess” pay
  • Age-weighted: The older a person, the more the relative contribution
  • New Comparability / Cross-tested: By dividing the company into various business classifications, each class is provided a different level of benefit
  • Points: Weighting various factors such as pay, age, or service, and making contributions based on these criteria

Purpose-built retirement planning begins here.