Understanding Money Purchase Pension Plans
A Money Purchase Pension Plan (MPPP) is a type of defined contribution retirement plan where the employer is legally obligated to contribute a fixed percentage of each employee’s salary annually to an individual account. Unlike defined benefit plans that guarantee a specific payout, MPPPs shift the investment risk to employees, with retirement benefits depending on how investments perform over time. This plan acts as a reliable, employer-funded savings vehicle for retirement.
Historical Context of Money Purchase Pension Plans
Historically, retirement began with defined benefit pension plans, which promised employees a fixed monthly income in retirement, with the employer bearing investment risk. Over time, due to changing economic conditions and employers’ desire to manage costs and risks, the focus shifted toward defined contribution plans. MPPPs emerged as a hybrid solution—retaining mandatory employer contributions like defined benefit plans but passing investment risk to employees, similar to 401(k) plans. While 401(k) plans have largely supplanted MPPPs due to greater flexibility—such as employee contributions and variable employer matches—MPPPs still serve as structured retirement savings options, notably among smaller employers.
How Does a Money Purchase Pension Plan Work?
In an MPPP, your employer commits to contributing a fixed percentage of your compensation annually to your retirement account. Here are key features:
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Mandatory Fixed Employer Contributions: Employers contribute a set percentage of your salary every year, regardless of company profits. For example, at a 6% contribution rate on a $50,000 salary, your employer deposits $3,000 annually.
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Employee Contributions Typically Not Allowed: These plans usually do not permit employee salary deferrals, contrasting with 401(k)s.
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Investment Choices: Employees generally select how contributions are invested among options such as mutual funds, stocks, or bonds. The account value at retirement depends on these investment returns.
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Vesting Schedules: Employer contributions might not fully belong to you immediately. Vesting schedules, detailed in the plan documents, define when contributions become your property. You can learn more about this in our Vesting Schedule guide.
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Retirement Distributions: Upon retirement or job change, you can roll over vested balances to an Individual Retirement Account (IRA) or another qualified plan, or take distributions subject to tax rules. See our Rollover IRA overview for details.
Comparing Money Purchase Pension Plans and 401(k) Plans
| Feature | Money Purchase Pension Plan | 401(k) Plan |
|---|---|---|
| Contribution Source | Employer only (mandatory fixed %) | Employee (optional deferral) and Employer (match/profit-sharing) |
| Contribution Amount | Fixed % of salary set by plan | Employee elected, up to IRS limits |
| Employer Contribution | Mandatory, regardless of profits | Usually discretionary and can depend on profits |
| Investment Risk | Employee bears risk | Employee bears risk |
| Employee Contributions | Typically not allowed | Allowed and encouraged |
| Flexibility | Less flexible | More flexible |
Who Participates in a Money Purchase Pension Plan?
Employees:
Eligibility generally depends on meeting plan age and service requirements, often age 21 and one year of employment. Employees benefit from consistent employer-funded retirement savings without needing to contribute themselves.
Employers:
MPPPs provide employers, especially small to medium-sized businesses, with predictable contribution obligations and a valuable tool for employee retention. Unlike defined benefit plans, MPPPs limit employers’ ongoing pension liabilities.
Practical Examples
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Example 1: Sarah earns $70,000 annually at a company with a 7% MPPP. The employer contributes $4,900 yearly to her retirement account. Over 20 years, without raises, contributions alone total $98,000, not accounting for investment growth.
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Example 2: Dr. Alex with a dental practice contributes 10% of salary to his employees’ MPPP accounts. For an employee earning $40,000, this means $4,000 yearly contributions, offering predictable costs and strong employee benefits.
Tips for Participants
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Understand Vesting: Know when employer contributions fully belong to you by reviewing the vesting schedule. More on vesting: Vesting.
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Choose Investments Carefully: While your employer funds the plan, you often select investments. Diversify to manage risk and consider consulting a financial advisor.
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Monitor Account Performance: Regularly review your statements and adjust your investments aligned with your retirement goals.
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Supplement Retirement Savings: Since employee contributions are generally not allowed, consider additional savings vehicles such as Traditional or Roth IRAs. Learn more about Individual Retirement Accounts (IRA).
Common Misconceptions
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It’s not exactly like a 401(k): MPPPs require employer contributions at a fixed rate and usually do not allow employee deferrals, unlike 401(k)s.
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Benefits aren’t guaranteed: Retirement amounts depend on investment performance, so balances can fluctuate.
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Vesting means delayed ownership: Employer contributions may not be yours immediately if the vesting schedule requires several years of service.
Frequently Asked Questions
Can I contribute my own money? Generally no. MPPPs are funded solely by employer contributions. Employees seeking to contribute must use 401(k)s or IRAs.
What happens if I leave my job? You keep vested contributions. You can roll these into an IRA or another plan, or take a lump-sum distribution with applicable taxes and penalties.
How are contributions taxed? Employer contributions grow tax-deferred. Taxes apply when you withdraw funds during retirement.
Are MPPPs common today? Less so than before. Their rigid structure has led many employers to prefer flexible 401(k) plans.
Reliable Sources
- Internal Revenue Service (IRS). Publication 560, Retirement Plans for Small Business (SEP, SIMPLE, and Qualified Plans).
- Investopedia. Money Purchase Pension Plan.
This overview aims to clarify how Money Purchase Pension Plans function today and their role within retirement planning options. Understanding this plan helps employees secure consistent retirement savings funded reliably by employers, while also appreciating how it fits within the broader retirement landscape.