Which Pension Is Best? Comparing Your Retirement Plans

Saving for retirement requires careful planning and understanding various options. This guide explores different retirement plans, their structures, and benefits to help you make informed decisions for a secure financial future.

Understanding Core Retirement Plan Structures

Retirement plans fall into two broad categories: Defined Benefit (DB) and Defined Contribution (DC). These structures differ in how benefits are determined, who bears investment risk, and the nature of the payout.

Defined Benefit plans, often called traditional pensions, promise a specific payout amount in retirement. This predetermined benefit is calculated using a formula based on salary history, years of service, and age. The employer assumes the investment risk, ensuring funds are available for future obligations. While less common in the private sector, these plans provide a stable, predictable income.

Defined Contribution plans involve regular contributions into an individual account. The retirement benefit depends on contributions and investment performance. The employee generally bears the investment risk, selecting investments within the plan’s options. Examples include 401(k)s and Individual Retirement Accounts (IRAs).

Employer-Sponsored Retirement Plans

Many individuals save for retirement through employer-sponsored plans. These often provide advantages like employer contributions and payroll deduction convenience.

401(k) and 403(b) Plans

401(k) plans are common Defined Contribution plans offered by for-profit companies, while 403(b) plans serve public schools, colleges, hospitals, and non-profit organizations. Both allow employees to contribute a portion of their pre-tax salary, which grows tax-deferred until retirement. Employers may offer matching or profit-sharing contributions.

For 2025, contribution limits are:
Employee contribution: $23,500.
Catch-up contribution (age 50+): additional $7,500 (total $31,000).
Enhanced catch-up (age 60-63, if plan permits): additional $11,250.
Total combined employee and employer contribution: $70,000.
Total combined (age 50+): $77,500.
Total combined (age 60-63): up to $81,250.

Traditional 401(k) or 403(b) contributions are pre-tax, reducing current taxable income. Many plans also offer a Roth option, where after-tax contributions lead to tax-free qualified withdrawals in retirement. Investment options include mutual funds, exchange-traded funds (ETFs), and sometimes company stock.

Traditional Defined Benefit Plans (Pensions)

Traditional Defined Benefit plans provide a guaranteed income stream in retirement, typically funded entirely by the employer. These plans pay a specified monthly amount based on a formula considering the employee’s final average salary, years of service, and a plan multiplier. The employer bears the investment and longevity risk, ensuring funds are available for the retiree’s lifetime.

Eligibility often requires a certain number of years of service, and benefits are subject to vesting schedules. Once vested, an employee has a non-forfeitable right to their accrued benefit, even if they leave the company. Payout options include a single life annuity, a joint and survivor annuity, or sometimes a lump-sum payment.

SIMPLE IRA Plans

Savings Incentive Match Plan for Employees (SIMPLE) IRA plans are designed for small businesses (100 or fewer employees). They offer a low-cost, straightforward retirement savings option. Employees can contribute pre-tax, and employers must contribute either a dollar-for-dollar match up to 3% of compensation or a fixed 2% non-elective contribution.

For 2025, employees can contribute up to $16,500. Individuals aged 50 and older can make an additional catch-up contribution of $3,500 (total $20,000). Higher catch-up limits may apply for those aged 60-63 under certain conditions. Contributions and earnings grow tax-deferred, with withdrawals taxed as ordinary income in retirement.

SEP IRA Plans

Simplified Employee Pension (SEP) IRA plans are for self-employed individuals and small business owners with few or no employees. Only the employer contributes to the plan, even if the self-employed individual is both employer and employee. Contributions are made to a traditional IRA for each eligible employee, including the business owner. These contributions are tax-deductible for the employer and grow tax-deferred.

The employer can contribute up to 25% of an employee’s compensation, or 20% of net earnings from self-employment for self-employed individuals, up to an annual maximum. For 2025, the maximum contribution limit is $70,000. Unlike some other plans, SEP IRAs do not permit employee salary deferrals or catch-up contributions. The flexibility to vary contributions year-to-year makes SEP IRAs attractive for businesses with fluctuating income.

Individual Retirement Plans

Individuals can also establish retirement savings accounts independently, regardless of employer-sponsored plan access. These plans offer different tax treatments and eligibility rules, providing flexibility for various financial situations.

Traditional IRA

A Traditional IRA allows individuals with earned income to contribute to a retirement account. Contributions may be tax-deductible, depending on whether the individual is covered by a work retirement plan and their Modified Adjusted Gross Income (MAGI). Contributions grow tax-deferred.

For 2025, the maximum contribution limit is $7,000. Individuals aged 50 and older can make an additional catch-up contribution of $1,000, totaling $8,000. Withdrawals in retirement are taxed as ordinary income. Distributions before age 59½ may be subject to a 10% early withdrawal penalty, unless an exception applies. Required Minimum Distributions (RMDs) generally begin at age 73.

Roth IRA

A Roth IRA operates with a different tax structure than a Traditional IRA. Contributions are made with after-tax dollars, meaning they are not tax-deductible. The benefit is that qualified withdrawals in retirement, including all investment earnings, are entirely tax-free. This makes it attractive for those who anticipate being in a higher tax bracket in retirement.

For 2025, the contribution limit is $7,000, with an additional $1,000 catch-up contribution for individuals aged 50 and older, totaling $8,000. Eligibility to contribute directly is subject to income limitations based on Modified Adjusted Gross Income (MAGI). For 2025, single filers can make a full contribution if their MAGI is less than $150,000, and married couples filing jointly if their MAGI is less than $236,000. Partial contributions may be allowed within certain income phase-out ranges.

Solo 401(k) Plans

Solo 401(k) plans, also known as individual 401(k)s, are for self-employed individuals or business owners with no full-time employees other than themselves and a spouse. This structure allows contributions as both an employee and an employer. The employee contribution functions similarly to a traditional 401(k), allowing pre-tax or Roth contributions from salary deferrals.

For 2025, the employee contribution limit is $23,500. Individuals aged 50 and older can make an additional $7,500 catch-up contribution (total $31,000). Those aged 60-63 can contribute an enhanced catch-up of $11,250 (total $34,750). As the employer, the business owner can make an additional profit-sharing contribution of up to 25% of their net self-employment earnings.

The total combined employee and employer contributions for a Solo 401(k) in 2025 can reach up to $70,000, or $77,500 if age 50 or older, and up to $81,250 for those aged 60-63, depending on compensation. This dual contribution mechanism allows for potentially higher savings than other individual plans, such as SEP IRAs, which do not allow employee deferrals.

Key Considerations for Your Retirement Strategy

An effective retirement strategy involves evaluating plan options based on financial circumstances and aspirations.

Employer Contributions

Employer contributions, especially matching contributions, are a significant benefit. Many employer-sponsored plans, like 401(k)s and 403(b)s, offer “free money” that boosts savings. Prioritizing contributions to receive the full employer match is a sound financial decision.

Contribution Limits

Limits for different plans dictate annual savings. Plans like 401(k)s and Solo 401(k)s generally allow higher annual contributions than IRAs, advantageous for those with significant savings capacity. Individual retirement accounts can provide additional savings avenues after maximizing employer-sponsored plans.

Tax Treatment

Choosing between pre-tax (traditional) or after-tax (Roth) contributions is important. Traditional plans offer an immediate tax deduction, while Roth plans provide tax-free withdrawals in retirement. The decision often depends on expectations of future tax brackets; a Roth account may be more beneficial if one anticipates a higher tax bracket in retirement.

Investment Control and Options

The level of investment control and options varies by plan type. Some employer-sponsored plans may offer a limited selection of funds, while individual IRAs and Solo 401(k)s provide a broader array of choices, including stocks, bonds, and mutual funds. Greater control allows for a personalized investment strategy.

Access to Funds and Penalties

Understanding rules for accessing funds before retirement age is prudent, such as for qualified expenses or loans. Vesting schedules, which determine when employer contributions become fully owned, are specific to employer-sponsored plans and affect fund accessibility.

Income Eligibility and Complexity

Income eligibility rules can affect access to certain plans, particularly Roth IRAs with MAGI limitations. Individuals exceeding these limits may explore alternative strategies like a “backdoor Roth IRA” conversion. Plan complexity and management requirements also differ; IRAs are straightforward, while others may involve more administration.