Types of Retirement Plan Benefits
The type of benefits paid from a retirement plan is based on:
- the distribution options available under the plan, and
- elections made by participants and their beneficiaries.
Defined contribution plans - 401(k), profit-sharing, and other defined contribution plans generally pay retirement benefits in a lump sum or installments.
Defined benefit plans - The normal method of distribution is an annuity paid over the employee’s life or the joint lives of the employee and his or her spouse (unless they elect otherwise).
A plan can make a lump-sum distribution of a participant’s or beneficiary’s entire accrued vested benefit without consent (a cash-out) if the benefit is $5,000 or less. If the benefit is more than $5,000, a lump-sum distribution can only be made with the participant’s (and spouse’s, if applicable) written consent.
Installment payments are made are regular intervals, for a definite period (such as 5 or 10 years) or in a specified amount (for example, $2,000 a month) to continue until the account is depleted.
Annuity payments are made from a defined benefit plan or under a contract purchased by a defined contribution plan. Payments are made at regular intervals over a period of more than one year, depending on the type of annuity.
If the participant is married prior to the first day of the period for which benefits are paid as an annuity, a plan subject to the spousal annuity requirements must pay benefits in the form of a qualified joint and survivor annuity (QJSA). If the participant dies before the spouse, the plan pays the spouse a life annuity. A participant may, with proper spousal consent, waive the QJSA and chose another payment option. Plans subject to the QJSA rules may also have to offer participants a qualified optional survivor annuity (QOSA) that provides a surviving spouse an annuity equal to either 50% or 75% of the annuity payments to be made during the participant’s life.
For a married, vested participant who dies before the annuity starting date, the plan must pay a qualified pre-retirement survivor annuity (QPSA) to the surviving spouse. The participant may, with spousal consent, waive the QPSA and choose an alternate form of distribution provided under the terms of the plan.
Unmarried participants must receive a single-life annuity, unless waived.
Plans subject to QJSA/QPSA
Defined contribution plans must also offer QJSAs and QPSAs for account balances over $5,000 unless:
- the participant doesn’t choose a life annuity under the plan;
- the plan pays the entire remaining vested account balance on the married participant’s death to the surviving spouse unless the spouse has consented to another beneficiary; and
- the plan is not a transferee of a plan that was subject to QJSA/QPSA.
Plans not subject to QJSA/QPSA
Most defined contribution plans are not subject to the QJSA and QPSA rules. However, when a married participant dies, these plans must pay the entire remaining vested account balance to the participant’s surviving spouse unless the spouse has consented to another beneficiary.
When an employee terminates employment prior to normal retirement age, before a distribution can be made (except for lump sum cash-outs), the employee must be given a written notice explaining the:
- available benefit payment options under the plan;
- right to delay payment until the later of the plan’s normal retirement age, or age 62; and
- consequences of failing to delay payment.
Tips for plan sponsors
- Know what forms of distribution are available to participants and beneficiaries under the plan.
- Retain participant distribution election forms together with notarized spousal consents, if applicable.
- Communicate with your plan administrator about:
- who provides the required notices and consent forms for distributions;
- who calculates and pays out the benefit;
- plan changes; and
- beneficiary updates as a result of participant life changes.