Retirement pensions in Korea: DB, DC and IRP explained

How a retirement pension differs from severance pay

Under the old severance pay system, the employer paid a lump sum on the day you left. The weakness was that if the company ran into trouble, you might not get paid. A retirement pension requires the employer to build up the benefit in advance with a financial institution. Because the money sits outside the company, your share is easier to protect even if the business struggles. There are three main forms: defined benefit (DB), where the employer is responsible; defined contribution (DC), where the employee invests; and the individual retirement pension (IRP), an account the individual opens. You can find out which plan your company uses from its rules, the HR department or the provider managing the plan.

DB: the payout is fixed

In a defined benefit plan, the amount you receive at retirement is calculated by a set formula. It is generally based on your average wage just before leaving and your years of service, so it resembles traditional severance pay. However the reserve is invested, the employer bears the outcome. Poor returns do not reduce your payout, and strong returns do not increase it.

• Tends to favor people whose wages rise steadily and who stay long with one employer
• No need for the employee to choose investments
• Can be unfavorable if wages fall just before retirement, as with wage-peak schemes
• Early withdrawals are generally not allowed

DC: the contribution is fixed

In a defined contribution plan, the employer pays a set contribution into your account each year. From then on, you choose and manage the investments, and the amount at retirement depends on the contributions plus investment results. Good investing can leave you with more than a DB plan would; losses can leave you with less.

• Worth considering if you change jobs often or expect modest wage growth
• You choose between principal-guaranteed and performance-based products
• A default option invests your money in a preset way if you make no choice
• Early withdrawals are possible only for reasons set by law

IRP: a retirement account in your own name

An individual retirement pension is an account you open yourself at a financial institution. You can move your retirement benefit into it and keep it invested, and employees or self-employed people can add their own money. If you leave a job before a certain age, the benefit is in principle transferred to an IRP. Extra contributions qualify for a tax credit up to a limit, which is why the IRP comes up so often in year-end tax settlement. If you take tax-advantaged money out early in a non-pension form, however, you may have to pay back tax equivalent to the benefits you received.

Choosing between DB and DC

Some companies offer only one plan; others let employees choose. There is no single right answer; your situation and temperament are the guide. Answering these questions points the way.

• Do you expect your wages to rise steadily?
• Do you plan to stay at your current company for a long time?
• Are you willing to pick investments yourself and review them regularly?
• Can you accept the possibility of losses?
• Under company rules, can you switch back after moving from DB to DC?

Lump sum or pension

You can take your retirement benefit as a lump sum or in pension installments. Taking it as a pension is generally designed to carry a lighter tax burden than a lump sum. To receive it as a pension you must meet conditions such as age and membership period; withdrawals before then are treated as a lump sum. Rather than cashing out everything because you need money now, first look at why you need the lump sum and what other sources you have. Offers tend to pile up right after retirement, so be especially wary of anyone promising guaranteed principal or high returns.

Common mistakes

Many people leave DC or IRP money in whatever product they chose at sign-up and do not look at it for years. Even with a principal-guaranteed product, failing to check what happens at maturity can leave the money stuck at a low rate. Putting everything into risky products for short-term gains is equally at odds with the purpose of retirement savings. If you take your benefit into an IRP when changing jobs and then close it to cover living costs, your retirement cushion disappears and the tax advantages shrink. Management fees also vary by provider and product, so compare them.

What to check now

First, find out whether your company uses DB, DC or both. If you have a DC plan or an IRP, log in to your provider's website or app to see which products hold your balance and whether any have matured. Contribution rules, tax credit limits, early withdrawal reasons and pension eligibility can change with reforms, so confirm them in official guidance. It helps to plan retirement funds with the National Pension and personal savings side by side. This is a general explanation of the structure, not investment advice.