In a hybrid retirement plan, your employer provides access to two compatible benefit structures at the same time. A typical hybrid plan combines a small guaranteed income (pension) plan with a defined contribution (DC) plan.
Employer contributions to the DC portion of the hybrid plan are often smaller than if the DC plan were offered on its own. Some states provide hybrid plans in which the employer finances the pension portion and the employee finances the DC portion. Others pair a guaranteed return (GR) plan with a guaranteed income plan.
What is a Hybrid Retirement Plan?
Some retirement plans mix and match elements of multiple retirement plan designs into a combined “hybrid” structure.
A common example of a hybrid retirement plan is pairing a small guaranteed income plan with a small defined contribution plan. In that case, the guaranteed income plan would have a lower-than-usual multiplier, such as multiplying years of service by 1% instead of 2%.
Employers would make a small contribution into a DC account for employees, and that individual pot of retirement savings would be managed like any other DC plan. Upon retirement, you can take the value of the DC account as a lump sum or blend it with the guaranteed income plan to receive larger pension checks.
Other kinds of hybrid retirement plans include:
- Pairing a guaranteed income plan with a guaranteed return plan, like Hawaii does for all teachers and public-sector workers.
- Providing a guaranteed income plan up to a maximum level of compensation, such as $80,000, and then offering a DC plan for any earnings above that level. Arizona provides this type of plan for its police officers and firefighters, with the pension based on final average income up to $110,000.
A Creative Example: Hybrid Retirement Plan
South Dakota is one of the more forward-thinking states when it comes to retirement plan design. It offers new members a retirement plan that mostly looks like a pension but has numerous elements that could classify it as a hybrid plan.
- The base benefit is a guaranteed income pension plan that uses a 1.8% multiplier on years of service.
- Employees with three years of service or more can leave with their own contributions, plus interest, plus 85% of that amount matched with employer contributions (this is not common).
- Employers make contributions of up to 1.5% of payroll to a “variable account” for each member, which increase the value of pension benefits at retirement. These benefits are not portable and do not belong to the employee. However, if the employee stays and qualifies for retirement, the money and any investment returns on the variable account are converted into income and added on top of the base pension benefit.
- Employees are also auto-enrolled in an optional DC plan. This is a nudge to participate in a supplementary retirement savings plan but not a requirement. Employees can choose not to participate or contribute.
The Pros and Cons of Hybrid Plans
Compared to other types of retirement benefits, such as defined contribution plans, guaranteed return plans, and defined benefit (DB) plans, hybrid plans come with several main pros and cons.
Pros
- May provide adequate retirement income security if the mix of plan designs fits the career pattern of the employee
- Moderate funding and budgetary predictability
- Limited effect on retention
- Moderate portability depending on what portion of benefit is DB/pension or DC
- Shared investment risk between employee and employer
Cons
- May not provide adequate retirement income security if the combined plan elements do not provide for a high enough pension multiplier and/or DC or GR contributions
- Funding and budgetary predictability depends on the mix of pension and DC elements
- Retention success depends on mix of plan design elements
- Plan designs for either full-career employees or more mobile workers
- Underfunding pension portion of benefits could result in increased employee contributions, lower pay levels or reduced COLAs
