Pension Plan Vs 403(b): Which One Is Better?

There are various types of retirement plans. They are categorized as defined benefit plans, e.g., pension plans and defined contribution plans (403b, 401k, and similar retirement plans). Both of these plans are sponsored by the employer for the financial security of employees.

In a pension plan, employees generally do not need to contribute. These plans provide an employer with a fixed amount of money every month at retirement. This monthly retirement income is dependent upon two factors which are your total employment years and your salary. Since you know your monthly pension amount prior to retirement, the pension plan is also called a Defined Benefit or DB plan.

A 403b plan is a type of retirement plan in which contributions are made by the employee. Employees choose to contribute the defined amount to their 403b plans from their monthly salary, for this reason, these plans are also called Defined Contribution plans or DC plans. These plans are offered to the employees of non-profit organizations such as universities, hospitals, and churches. 403b is also called a Tax-Sheltered Annuity because of the fact that it allows your funds to grow tax-free until retirement.

Eligibility Criteria: Pension Plan vs 403b Plan

Large companies and government organizations offer pension plans. Previously, they were available to private sector employees, but they have now been replaced by defined contribution plans such as 401k and 403b.

In order to be eligible for DB plans, you must be employed in a company that is offering it. The requirements for the eligibility of pension plans vary according to the employer’s specific plan. In addition to that, the pension should be vested which means that you must be an employee of a company for at least five to seven years to be eligible to get the perks of the pension.

403b plans are offered to non-profit organizations and certain non-taxable organizations under the IRS section 501(c)(3). Some of the examples of these institutes and organizations are:

Public schools
Nonprofit universities
Churches
Particular ministries
Hospitals
Armed forces
Social service agencies

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Contribution Limits: Pension Plan Vs 403b Plan

In a pension plan, contribution is made by the employer. The employee generally does not need to contribute to their pension plan. However, in some cases, the employer may be required to make contributions. Moreover, there may be a choice for employees to contribute to their plan or let it alone be contributed by the employer.

These contributions are managed by the investment professionals. Therefore, employees don’t have to worry about making investment choices.

For 403b plans, the IRS has imposed certain contribution limits. You can contribute $23,000 to your 403b in 2024. Employees 50 or older are eligible for a catchup contribution of $7,500. Employees who have served up to 15 years are eligible for an additional contribution.

Some employers may also choose to make a matching contribution to their employee’s 403b account. The limit for combined contribution for both employer and employee is $69,000. Employees 50 or older are eligible for a catchup contribution of $7,500 making a total of $76,500.

Retirement Income Expectation and Calculation

The monthly income in the pension plan is fixed. This is determined by the number of employment years and the average salary in the last working years multiplied by a percentage which is typically 2%. For example, if you’ve worked in a company for 32 years and your average salary in your last three to five years is $150,000. Your yearly pension would be 32 x $150,000 x 2% = $96,000. This amount will be divided and a fixed amount would be given to you monthly.

In a 403b plan, the income is not fixed. Your monthly payout depends on the contributions you have made in your serving years and your investment choices. It is advised to start contributing to your 403b account as soon as you become eligible to get the most out of it.

A comprehensive direct comparison between a pension plan and a 403b plan is as follows.

Drawbacks of Pension Plan Vs 403b Plan

Pension Plan

The benefits may be lessened if the company becomes bankrupt or performs inadequately.
Employees don’t have control over their funds as the employer manages and controls them until the employee retires.
Pension plan needs to be vested. You may lose all your benefits if you leave your job before the vesting period.

403b

The payout will last only until the funds are retained.
Employees have to bear the investment risks and fees.

Benefits of Pension Plan and 403b Plan

Pension Plan

Since the contribution is made by the employer, they are the ones responsible for making the investments and managing the funds. The employees would not be burdened.
It promises a lifetime payout even if all of the retirees live for age 100 or above, the company is bound to pay them.
Employees can easily plan for your future, as the monthly income is predictable and stable.
Employers have to bear the investment risks.
The pension benefits are insured by the Pension Benefit Guaranty Corporation (PBGC) which adds additional security to the funds.

403b

In 403b, contribution is made before the tax is paid which reduces the potential taxes for the year.
It also offers the option for employer match, thus increasing the contribution limit.
There is no vesting schedule for 403b.
403b is portable, meaning that you can rollover your account to a 401k or IRA in case you change a job.

Conclusion

Pension plans and 403b plans are both designed for the benefits and financial security of their employees. In order to choose between these two, look for certain factors like the eligibility, investment risks and retirement benefits.

It is also advised to opt for both plans at the same time. You can have a pension plan with your previous employer and you may contribute to a 403b plan with your new employer. This is an ideal situation for an employee to have more than one income stream at retirement.

Always consider your financial advisor to make sure that you choose the right option for yourself.

Frequently Asked Questions

Is 403b a pension?

No, 403b is not a pension. The purpose of both of these accounts is to provide the employees with financial security but they function differently.

Which one is better; 403b or pension plan?

Most employees usually prefer a pension plan over 430b as it guarantees a lifetime income at retirement.

Can I take my pension plan to my new job?

Certainly not. Pension plan is not portable, it stays with your old employer. Although you can choose a 403b or 401k at your new job, provided that your new employer offers these.