If you are among the approximately 38% of Canadians who have a pension plan through their employers, do you know what kind of plan you have? Understanding how your company pension works will help you see how far it will go towards meeting your retirement goals, and what additional planning and saving you may need to do.
What kinds of registered pension plans are there?
There are basically 2 types of registered pension plans: defined benefit and defined contribution. The key to understanding your plan is in the name.
Defined benefit pension plans (DBPP). You know how much your benefit — the income you can expect to receive – from a DBPP will be. Look for the number on your annual pension statement. (It will be labelled as something like “monthly pension payable to you.”) The amount you’ll get is usually based on a formula involving your years of service and your earnings. With a DBPP, you’re not actively involved. Your employer manages the pension fund’s assets and is responsible for making sure the benefit is paid as promised.
Defined contribution pension plan (DCPP). With a DCPP, you know how much you are putting in (the defined contribution part), but not how much you will take out. That depends on the performance of the assets invested in your individual retirement plan account (typically, mutual funds, stocks and bonds) up to the time you retire. With a DCPP, your employer contributes to your pension according to a particular formula, and you may or may not have to make some type of matching contribution. These contributions are usually a fixed percentage of your salary or on a specific dollar amount, and go into an account in your name.
The balance in your group plan account when you retire is a combination of the contributions made over the years by you and your employer, and the earnings from the investments those contributions purchased.
While a DBPP pays you directly, you have to convert a DCPP to an income-generating product such as a life income fund (LIF) or an annuity to get a regular income from it. (It’s something like an RRSP in that regard.)
A DCPP can offer you more choice and flexibility than a DBPP. Your plan administrator gives you a list of investment options to choose from, and you decide according to your own investment goals and tolerance for risk. The responsibility for investing wisely is yours, rather than your employer’s.
Whether your company pension is defined benefit, defined contribution or a combination of both — and many plans are such hybrids these days – it’s an important part of your retirement strategy. Meet with an advisor to get help building your company pension into a broader retirement plan that takes into account where you stand now, what you want your retirement to look like, and how you can protect your investments, your income and your legacy.