For many of us, employer-provided retirement benefits are a crucial part of planning for a secure future. But what happens if your employer runs into financial problems? Understanding the risks and protections in place can help you plan more confidently.
The Risk of Employer Insolvency
If an employer experiences financial difficulties, employees may not only risk losing their jobs—they could also see their retirement benefits affected.
Take Larry, a retired school teacher in Illinois, for example. Larry’s teacher pension plan has funding challenges, leaving him anxious each morning about what the future holds.
Fortunately, there are rules in place to help protect retirement benefits:
- Employers must meet minimum funding requirements.
- Contributions are made to irrevocable trusts, which means the money is set aside specifically for retirement benefits and generally cannot be used by the company for other purposes.
Even so, there is still a risk: if a company faces bankruptcy and its pension plan is underfunded, some benefits could be reduced.
Defined-Benefit Plans and Insurance Protection
Most large, privately sponsored defined-benefit plans (pensions) covering more than 25 employees are insured by the Pension Benefit Guaranty Corporation (PBGC).
Here’s how it works:
- Employers pay annual premiums to the PBGC.
- If a company with financial trouble terminates its pension plan with insufficient assets, the PBGC guarantees benefits—up to around $50,000 per year.
Smaller plans not covered by the PBGC may still provide most benefits, especially to rank-and-file employees, though highly compensated employees could see some limitations.
Defined-Contribution Plans (401(k)s and Similar Plans)
For defined-contribution plans, like 401(k)s, your retirement benefit is based on your account balance rather than a guaranteed payout.
- Contributions from both you and your employer are placed in an irrevocable trust, so your money is secure from employer claims.
- Your account grows or shrinks depending on the investment performance of your chosen funds.
One risk arises if your plan invests heavily in employer stock. If the company’s value drops, your retirement account can lose value. Publicly traded companies usually allow participants to diversify, which helps reduce this risk.
Executive Benefits and Non-qualified Plans
Executive benefits under non-qualified deferred-compensation programs work differently. In these cases, employees are considered general creditors if the company goes bankrupt.
- Even if funds are held in trust, the assets can be claimed by creditors.
- This makes non-qualified executive benefits inherently riskier than standard pensions or 401(k) accounts.
Public Sector Plans
If you participate in a pension plan sponsored by a government entity, protections are different:
- These plans are not covered by PBGC insurance.
- Safety depends on the financial health of the government entity itself.
Key Takeaways
- Most private employer pensions have strong protections under ERISA.
- 401(k) plans and other defined-contribution accounts are generally secure but depend on investment performance.
- Executive and nonqualified plans carry higher risk if the employer faces bankruptcy.
- Public pensions may not have the same guarantees as private plans.
Understanding your plan type and the protections in place is crucial for planning a secure retirement. If you have questions about your benefits or how to protect your retirement savings, consider speaking with a financial advisor who can guide you based on your unique situation.