A recent University of Missouri study found that, among other things, pre-retirees with only a defined benefit plan are almost twice as likely to retire in any given year when compared to those with only a defined contribution (401(k)-type) plan. This startling statistic could be driven by a number of different factors, but from an actuarial analyst’s perspective a couple of possible motivating factors immediately come to mind.
First and foremost, defined benefit plans offer retirees a guaranteed income stream at retirement. The value of this plan characteristic has been illustrated in the last few years as we’ve seen how a financial crisis can significantly erode a defined contribution plan participant’s ability to fund their retirement. This higher degree of uncertainty associated with a defined contribution plan demands that a participant overshoot their actual retirement goal in order to compensate for the possibility of the market turning against them.
Another possible effect in play here is that the nature of a defined benefit plan is such that it “forces” an employee to save for retirement more than a defined contribution plan. In a defined contribution plan, at least part of the plan’s funding is accounted for by salary deferrals, which are made at the participant’s election. It takes discipline to accept less pay now in order to meet a retirement goal years down the road, and many employees don’t have that discipline. In a defined benefit plan, benefits are typically funded solely by the employer each year without any participant election. Making regular contributions leads to a larger accumulation at retirement, which allows more defined benefit plan participants to retire in any given year than defined contribution plan participants.
While any number of other factors could be driving the outcome of this study, the result is worth some thought. Both defined benefit and defined contribution plans have their merits and a company looking to implement a retirement plan for its employees should consider how that plan will help its employees meet their retirement goals.