The difference between public pension plans and individual retirement accounts is in who’s assumed responsibility for the risk.
A recent contributor to the Star Tribune’s letters to the editor wondered why no one was going to help him out if his 401(k) tanked. After all, we are going to shore up a public pension (“House OKs surcharge … ,” May 4). Sorry, pal, that’s just the way retirement plans work. A pension is a totally different animal than a 401(k).
Pensions are “defined benefit” retirement plans. When you accept a job with a pension, your employer promises to pay you so much per month every month from the day you are eligible to retire until you die. Your monthly retirement check is “defined” by your years of service and the plan setup documents. The employer sets aside money in a trust and invests it to make sure it has enough to pay its retirees. It’s a tricky business, because the promise to make payments to retirees stands even if markets crash and investments tumble (think mortgage-backed securities, credit default swaps, Wall Street hotshots and the near-depression of 2008).
The point is that the employer takes the market risk. If there’s not enough money in the fund to pay retirees, the employer has to cough up more. We promised our public employees pensions as part of their employment. We took the risk. So we are on the hook to shore up the fund, even if our representatives don’t set aside enough money, invest it poorly or the market drops. It’s no surprise that employers have been dumping pensions for years.
The rest of us are left with 401(k)s, IRAs or similar programs. These are called “defined contribution” retirement plans. The employer sets them up, provides a list of investments, allows us to “contribute” and, if we’re lucky, kicks in a “matching” amount. But, we take all the risk. Don’t save enough? Too bad. Make a stupid investment? Too bad. Crummy market? Too bad. What you save, plus or minus your investment return, is what you get, period. A lot of people freaked out in October 2008, sold out their 401(k)s at the bottom of the market, and didn’t buy back in again until stocks got expensive. They lost a sizable chunk of their retirement dreams and will be working well beyond creaky knees and failing eyesight. Again, too bad.
This ain’t your parents’ (or grandparents’) retirement world. It’s a tortoise-and-hare game now, and only those with pensions can afford to play tortoise. (It’s not all roses there, either. But that’s another story.) The only thing you can do is invest a big chunk of each paycheck in your 401(k), choose investments as best you can, try not to get gouged by fees, avoid panic and hope to make it big. It might happen. Or, you might be stuck at age 80 with a bag of deflated stocks and bonds. Then, you’ll have to depend completely on another “defined benefit retirement plan” called Social Security. Bona fortuna.
John Widen, of Minneapolis, is a retired learning and development consultant.
The Opinion section is produced by the Editorial Department to foster discussion about key issues. The Editorial Board represents the institutional voice of the Star Tribune and operates independently of the newsroom.