Guaranteed Income Plans (Pensions)
A guaranteed income plan provides a fixed, guaranteed monthly income based on two factors: 1) years worked, and 2) average salary during final working years. At a simple level this is how Social Security works.
But this is where the similarities between Social Security and what are traditionally known as “pensions” stop. Your pension benefit is based on a formula, and to pay for this guaranteed retirement benefit you make contributions at a level determined by your state government. The pension fund then invests that money alongside contributions from your employer.
When you retire, these combined contributions, plus any investment returns they earn, pay you a monthly income.
If the contributions and returns are not enough to pay the guaranteed amount, the government makes up the difference, guaranteeing you a steady level of income. Professionals manage these funds, and teachers bear no direct risk. If funds run short, however, school districts, cities, or states may have to raise taxes, increase contribution rates, or cut funding from other priorities to keep their promises.
Note: Sometimes guaranteed income plans or pensions are called “defined benefit plans”—a broad term that can refer to more than just pension plans. Exact terminology varies from state to state, which can lead to confusion. But if your retirement income is based on an average of your salary, and if it is paid for in advance using a combination of contributions and investment returns, you have a pension.