Case Ch20

You are hired as a junior manager at a state-owned institution at the beginning of 2021 with a salary of $100,000. You must choose between two retirement plans in the first week of your employment. This choice cannot be reversed. The two alternatives are:

• the states defined benefit plan (DBP): under which you will receive annual retirement benefits determined by the following formula: 1.5% * years of service * salary at retirement.
• a defined contribution plan (DCP): under which the institution will contribute each year an amount equal to 8% of your salary to your retirement fund.

You assume that salaries will rise by 3% a year, the interest rate and return of retirement assets will roughly match the market index return of 8%, you will retire after 35 years (end of 2055), and receive retirement payment for the subsequent 25 years (between the end of 2055 and the end of 2080).

1. What is the present value of DCP at the expected retirement date (end of 2055)? Hint: You may use a spread sheet to list annual DCP contributions?