Variable Benefit Plan: Meaning and History
A variable benefit plan (also known as a defined-contribution plan) is a retirement plan in which the payout varies with the market performance of the plan’s investments. Common examples include 401(k) accounts, where contributions are defined but the ultimate benefit depends on investment returns.
Key takeaways
- Variable benefit plans tie retirement payouts to investment performance, shifting market risk to the participant.
- Defined-contribution plans (e.g., 401(k)s) are the most common form of variable benefit plans.
- These plans can deliver higher long‑term returns than fixed defined‑benefit pensions but require participants to make investment decisions and accept market volatility.
How variable benefit plans work
- Contributions are typically defined by a formula (percent of salary, employer match), but the retirement benefit is not guaranteed.
- The account balance grows or falls with investment returns; the participant bears the investment risk.
- Participants control investment choices (within plan options), giving them the potential to outperform or underperform a guaranteed pension.
Pros and cons
Pros:
* Potential for higher long-term returns.
* Portability — account balances typically move with the worker when changing jobs.
* Flexibility in investment choices and contribution levels.
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Cons:
* Market risk: account value can decline, reducing retirement income.
* Greater responsibility on employees to choose investments and manage retirement strategy.
* No guaranteed lifetime benefit unless converted to an annuity.
Historical context
- The first private pension in the U.S. is often traced to American Express in 1875.
- In the 1920s Congress encouraged private pensions by making contributions tax‑deductible, supporting early growth of retirement plans.
- From the end of World War II until about 1980, defined‑benefit (fixed-payout) pensions were the predominant form of employer-provided retirement security.
- Rising global competition, shareholder pressure for higher returns, and the cost burdens placed on employers led many firms to adopt defined‑contribution (variable‑benefit) plans beginning in the late 20th century.
- Since the early 1980s, access to defined‑benefit plans has declined substantially. According to the U.S. Bureau of Labor Statistics (National Compensation Survey, 2020), about 15% of private‑sector workers participated in defined‑benefit plans, while roughly 65% had access to defined‑contribution plans.
Conclusion
Variable benefit plans have become the dominant employer-sponsored retirement vehicle in many workplaces because they shift funding risk from employers to employees and are less costly for employers to manage. They offer growth potential and portability but require individuals to manage investments and accept market volatility as a core part of retirement planning.