In DB: A plan will guarantee to pay a fixed sum every year to a worker and he/she will receive this fixed sum until death.
In DC: The employer contributes an amount every year into the workers retirement’s account. Now, will this amount be paid as a lump-sum at the start at retirement or will the worker receive a fixed sum every month until death, i.e. same as with a DB plan?
Depending on particular DC contract. On plain vanilla option no lump sum than receiving sum until death but this sum might not be fixed for entire period upon death. I am a DC participant. I had to choice among 3 risk options (different AA) and now my employer pays contributions each month what is its legal obligation. In addition, I privately contribute by own funds each month because I want higher pension.
Depends on the payout structure, but most plans I know allow you to take out the full lump sum in DC plans. However this tidbit is getting away from the curriculum. Most DC plans are wrapped up into your 401k those items go in pre tax. When you withdraw the funds they get taxed at your ordinary income level. So its beneficial from a tax perspective to not withdraw the full lump sum right away.
Ok. So if a DB plan and DC plan both pay a fixed sum until they beneficiary dies, they have equal longevity risk, which is 0 because each pays until death? If DC would be lump sum it would have a higher longevity risk.
I’m not entirely sure what you’re asking, but one point is that with a DB plan, you have a have guaranteed annual income until death, so the plan bears the longevity risk. With a DC plan, the payee is subject to all of the longevity risk.
But, if the DC is not paid as a lump sum, but instead paid until death. In this case there should not be any longevity risk with the DC plan either right?
If is government guaranteed probably not. But such Plans usually have low amount payouts. If is not guaranteed, it may have longevity risk.
For a DB plan, you get a guaranteed annual payout until death. For DC plans, what you can do with it varies by country, but essentially you have a pot at retirement (where you’ve taken the risk before retirement), and there is no guarantee as to what benefits you get through retirement.
At retirement, you can take it as a cash lump sum (likely to be heavily taxed as it will all be taxed as income), invest it through retirement and withdraw it (taxed as income still) etc. If you do want certainty, you can buy an annuity, which gives you the same benefit as a DB plan, i.e. a fixed cashflow until you die, which removes the longevity risk. You can usually buy a fixed annuity (doesn’t increase) or a rising annuity (increases in line with either an investment return, or inflation).
It isn’t part of the curriculum, but the amount you get per year by purchasing an annuity with a DC pension pot is usually lower than the pension you get with a DB pension (this is one of the reasons DB pension schemes have been closing, because they are too expensive to fund). Not sure what flashback means when he says government guaranteed - governments don’t guarantee income from a DC pension pot.
FYI, I work in pensions.
In some countries each employee receives net salary while from his salary is deducted amount as contribution to DC plan. The employer is mandatory deduct and make monthly payment from each employee gro salary to DC plan. From this contributions not only employee’s future pension will be paid than current retirements benefits are also paid out. All employees should receive some pension amount but is incredible low. Ponzi scheme. Google Bismarck pension system.