They’re complicated. Retirement plans and other employee benefit plans are created and administered by a complex set of laws, regulations, and accounting and auditing standards.
And they continue to evolve, further complicating matters.
Recently, as I worked with a business client’s CFO to prepare for a retirement plan audit, he asked me to clarify a few terms relevant to the plan. Since he was unclear on the specifics, you may be too.
Glossary of Retirement Plan Terms
|401(k)||A type or feature of a defined contribution plan that allows participants to make salary-deferred contributions to their accounts — generally on a pre-tax basis. Some plans also allow after-tax, or Roth 401(k), contributions. In some cases, employers also make matching contributions to the account.|
|403(b)||A defined contribution retirement plan for public schools and certain other tax-exempt organizations, similar to a 401(k).|
|Administrator||See plan administrator|
|Defined benefit plan||A retirement plan that provides a specified benefit at retirement, generally based on a formula that includes the participant’s retirement age, pre-retirement earnings and years of employment.
Also known as a traditional pension plan
|Defined contribution plan||A retirement plan with individual accounts into which participants and/or the employer contribute funds for retirement. Contributions and earnings are tax-free until distributed.
See also 401(k), 403(b) and ESOP
|Disqualified person||For purposes of the prohibited transaction rules, disqualified persons include the plan fiduciary; plan service providers; an employer of the plan’s participants; an employee organization with members who are plan participants; direct or indirect owners of 50 percent or more of such an employer or employee organization (including family members and entities); and certain officers, directors, and highly compensated employees.|
|ESOP / employee stock option plan||A qualified, defined contribution plan that is designed to invest in qualifying employer securities as defined by the tax code, making participating employees indirect owners of the company through the ESOP.|
|Key employee||An employee who, at any time during the plan year, is either a more-than-five-percent owner of the employer, or a more-than-one-percent owner of the employer with compensation that exceeds a specified amount, or an officer with compensation that exceeds a specified amount.
See also top-heavy plan
|Fiduciary||See plan fiduciary|
|Frozen retirement plan||A defined benefit plan that is closed to new enrollment and for which existing participants generally do not accrue additional benefits.|
|Nondiscrimination||Tax rules and annual testing calculations to ensure that tax-advantaged (qualified) retirement plans do not disproportionately benefit key or highly compensated employees relative to non-highly compensated employees. Plans can be disqualified if they discriminate.|
|Participant||An employee who qualifies to participate in the plan. Also referred to as a plan participant.|
|Plan administrator||A person or entity with responsibility for managing the plan in the best interest of plan participants. The administrator may be the employer, a committee of employees, a company executive, or a professional firm hired for that purpose.
See also TPA
|Plan fiduciary||A person or entity with discretionary authority or responsibility for either plan administration or plan assets, or renders investment advice for a fee—including plan sponsors, plan administrators, trustees and investment managers. Fiduciaries are subject to certain standards of conduct because they act on behalf of the plan’s participants and are responsible for selecting the plan’s service providers.|
|Plan trustee||A person or entity with fiduciary responsibility for, and authority over, the plan’s assets. Frequently used to refer to the custodian of the plan’s assets. A non-discretionary trustee holds the plan’s assets and acts as directed by the plan administrator or investment manager. A discretionary trustee has authority to make investment decisions on behalf of the plan.|
|Prohibited transaction||Certain transactions between the retirement plan and a disqualified person, such as lending money, extending credit, selling or leasing property, furnishing goods or services. Disqualified persons who engage in such transactions are subject to a nondeductible excise tax.|
|QDRO / qualified domestic relations order||Required when a participant’s retirement account is subject to a division of property in a divorce. Pronounced “quiddro” or “quadro.”|
|Qualified plan||A retirement plan that satisfies requirements of the tax code and ERISA legislation such that it is eligible for various federal tax benefits, including tax-deductible contributions and tax-deferred earnings. Qualified plans must be designed for the exclusive benefit of participants and include defined benefit and defined contribution plans.|
|Rollover||A participant-initiated transfer of funds from one qualified plan to another qualified plan, often resulting from a change in employer.|
|Roth 401(k)||A type or feature of a defined contribution plan that allows the participant to make contributions to an individual retirement account that combines features of a 401(k) and a Roth IRA. Contributions are made on an after-tax basis, withdrawals are tax-free, and there are no income limitations for participants.|
|Sponsor||Plan sponsor, typically the employer.|
|TPA / third-party administrator||Independent service provider that manages or performs certain administration services for the plan, such as maintaining the participants’ accounts. TPAs generally do not relieve the plan administrator of fiduciary responsibilities, including supervising the TPA in the performance of its duties.|
|Top heavy||A defined contribution plan for which more than 60 percent of plan assets belong to key employees at any point during the year. Top-heavy tax rules impose additional allocation and vesting requirements on top-heavy plans in order to ensure minimum benefits for lower-paid employees.
See also key employee
|Traditional pension plan||See defined benefit plan|
|Trustee||See plan trustee|
|Vesting period||The period of time an employee must work for an employer before retirement benefits are not subject to forfeiture upon termination.|