Planning for retirement is one of the most critical steps toward long-term financial security. With Social Security uncertainty, individuals increasingly turn to structured savings vehicles, like qualified retirement plans, to build their nest egg.

Qualified retirement plans, such as 401(k)s and pensions, are employer-sponsored accounts that offer tax advantages and the potential for matching contributions. But they’re not one-size-fits-all, and understanding how they differ from non-qualified plans is key to choosing the right strategy.

In this guide, we’ll explain qualified retirement plans, review the rules that govern them, and discuss the pros and cons to help you make an informed decision.

What is a Qualified Retirement Plan?

A qualified retirement plan is an employer-based plan that eligible employees can participate in while working for a specific organization. The most common type of qualified retirement plan is the 401(k), but pensions, 403(b)s, and profit-sharing plans also fall into this category.

For a retirement plan to be considered “qualified,” it must meet several requirements set forth by the Internal Revenue Service (IRS).

Qualified retirement plan requirements include:

• Plan participants must receive a document outlining plan features, such as how the plan is funded and participant eligibility requirements.
• All plans must adhere to the terms outlined in the plan document provided to participants.
• Plan contributions can not exceed the limitations outlined in section 415.
• All plans must comply with the minimum vesting requirements.
• Minimum distributions must comply with section 401(a)(09), which specifies the date a participant must take their first distribution and the minimum amount allowed.
• A defined benefit plan must meet minimum participation requirements.
• Defined benefit plans and money purchase pension plans must meet minimum funding requirements outlined in section 412.
• Contributions must only be distributed to the employee or their beneficiary.

Employers offering qualified retirement plans must also meet the Employee Retirement Income Security Act (ERISA) requirements of 1974.  Like the Internal Revenue Code used to govern employer-offered retirement plans, ERISA also outlines fiduciary responsibilities, grievance and appeals processing, and employee rights to seek legal action if there is a breach of fiduciary duty.

Qualified vs. Non-qualified Plans

Qualified retirement plans meet IRS and ERISA requirements and offer tax advantages like pre-tax contributions and tax-deferred growth. Examples include 401(k)s, pensions, and profit-sharing plans. These plans often include employer contributions and must follow strict rules around participation, vesting, and nondiscrimination.

Non-qualified plans don’t meet IRS qualification standards. They typically provide supplemental retirement benefits for executives or high earners and may not offer the same tax benefits or protections. Examples include deferred compensation or executive bonus plans.

Types of Qualified Retirement Plans

Qualified retirement plans come in several forms, each with unique features, eligibility rules, and tax advantages. Here are the most common types of qualified retirement plans:

401(k) Plans

Offered by private employers, 401(k) plans allow employees to contribute a portion of their wages on a pre-tax basis. Many employers offer a matching contribution, and Roth 401(k) options may be available for post-tax contributions.

403(b) Plans

Designed for employees of public schools, certain nonprofits, and religious organizations, 403(b) plans work similarly to 401(k)s but are subject to different regulatory requirements. They often have lower administrative costs and are limited to certain annuity or mutual fund investments.

457(b) Plans

State and local governments and some tax-exempt organizations typically offer these plans. One advantage of a 457(b) is that participants can contribute to both a 457(b) and a 403(b) or 401(k) in the same year, potentially doubling their retirement savings.

Defined Benefit Plans (Pensions)

A traditional pension promises a specific monthly benefit at retirement, calculated using a formula based on salary and years of service. These plans are employer-funded and require significant long-term commitment to maintain.

Savings Incentive Match Plan for Employees (SIMPLE) Plans

Best suited for small businesses with 100 or fewer employees, SIMPLE IRAs are easy to set up and require employer contributions, either matching up to 3% or a flat 2% contribution for all eligible employees.

SEP IRAs (Simplified Employee Pension Plans)

Ideal for self-employed individuals and small business owners, SEP IRAs allow employers to contribute up to 25% of each employee’s salary. This is a great option for small business owners who intend to maintain employees, while a Solo 401(k) may be a better option for sole proprietors or freelancers.

Pros and Cons of Qualified Retirement Plans

Qualified retirement plans offer many advantages for employees, but they also have some limitations. Remember the following as you decide which type of account best fits your investment and retirement goals.

Pros:

• Tax advantages. Contributions can grow tax-deferred or tax-free, depending on your account type (Traditional or Roth).
• Employer contributions. Many employers offer matching contributions, which can significantly boost your retirement savings.
• High contribution limits. Many plans, including 401(k) plans, offer higher contributions than other qualified plans, like IRAs.
• Automatic payroll deductions. Contributions are deducted directly from your paycheck, making it easier to save consistently.

Cons

• Limited investment choices. Investment options are typically limited to those selected by the plan provider.
• Tied to employment. If you leave your job, you may need to roll over your account and risk losing employer contributions that haven’t vested.
• Lack of control over fees. Your account is subject to the administration and management fees of the provider’s chosen investment entity.
• Early withdrawal penalties. Accessing funds before 59 ½ typically triggers penalties, especially if you have a traditional account. Roth contributions can be withdrawn without penalty.

How to Choose the Right Retirement Plan

Choosing the right retirement plan depends on your employment status, income level, and long-term goals. A 401(k) with employer matching is often the easiest option if you’re employed.

If you’re self-employed, a SEP IRA or Solo 401(k) may offer higher contribution limits and more control. Consider key factors, including tax advantages, investment flexibility, and how hands-on you want to be with your savings.

FAQs

What is a qualified retirement plan?

A qualified retirement plan is a retirement savings plan that meets the requirements of the Internal Revenue Code and the Employee Retirement Income Security Act (ERISA), making it eligible for tax benefits such as tax-deferred growth or tax deductions.

Who can set up a qualified retirement plan?

Business owners, self-employed individuals, and employers can establish qualified retirement plans for themselves and/or their employees. Eligibility rules vary depending on the specific plan type.

Can I contribute to multiple retirement plans?

Yes, but there are limits across all plans. For example, if you contribute to a 401(k) at your job and also have a Solo 401(k) for your side business, your employee deferrals are capped across both plans, though employer contributions may be made separately.