Saving for Retirement Glossaries

401(k) - A defined contribution plan an employer offers to its employees to allow them to divert a portion of their income to retirement savings. Income taxes on the savings are deferred until withdrawal. A penalty tax is imposed for withdrawal of all or a portion of the funds before a specified age. Employers may match an employee's contribution dollar-for-dollar.

529 Savings Plan - An education savings program designed to help parents and guardians save for college. There are two types of 529 plans: prepaid and savings. Prepaid plans give a person the opportunity to buy tuition credits at current rates for use in the future. As such, tuition inflation affects performance. In savings plans, all growth is based upon market performance of principal investments, usually mutual funds. Prepaid plans can be administered either by state governments or academic institutions. Savings plans can only be administered by states. Plans are subject to contribution and investment restrictions. Withdrawals for college expenses can be made tax-free until 2011; at that date, the availability of that benefit and others may be conditional. Withdrawals for non-educational purposes will activate federal income taxes and receive a 10 percent tax penalty. Anyone is eligible to contribute to a Section 529 plan regardless of income.

Annual Percentage Rate (APR) - A term describing the true cost of a loan, taking into account the interest rate as well as loan discount points, miscellaneous fees and mortgage insurance. APR is an expression of the yearly percentage, rather than the monthly fees, a borrower will have to pay. The percentage could be higher than the interest rate stated on the note because it also includes all associated costs.

Assets - Items owned by a person or corporation that hold value and can be easily exchanged for cash. Common assets include securities, inventory, houses and cars. Financial statements show assets as the amount of a person's total liabilities and equity.

Asset Allocation - A term for the way in which a person distributes investments into asset classes.

Asset Class - A class of investments sharing similar characteristics, including risk factors and return rates. Stocks, bonds, real estate and cash are examples of types of asset classes.

Average Final Compensation (AFC) - The monthly average of the highest salary a person has made for 60 consecutive months.

Balanced Investment Strategy - An investment approach where the goal is to balance risk and return. These portfolios often are equally divided between equities and fixed-income securities.

Beneficiary - An individual, institution, trustee or estate that receives benefits upon a person's death as outlined in a will, insurance policy, retirement plan, annuity, trust or other contract.

Bonds - A financial asset issued for a period of more than a year by governments, companies, banks, public utilities and other larger entities. A bond is a promise to repay the principal borrowed with interest at a specified date. Bonds are divided into a different categories based on a number of criteria, including tax status, credit quality, issuer type, maturity and whether they are secured or unsecured. Compared to shareholders, bondholders can lay claim to a greater portion of the issuer's income in the event of financial distress.

Capital Appreciation - A profit made on an investment due to an increase in market value.

Capital Gain - The difference between the purchase price of an asset and the selling price of that same asset. The gain is realized when the asset is sold.

Certificate of Deposit (CD) - A FDIC-insured, interest-bearing debt instrument that offers low risk and low rates of return. CDs have a fixed term - usually of three months, six months or one to five years - that is typically locked in at a fixed rate. A CD is meant to hold until maturity; at that time, both the savings and accrued interest may be withdrawn. In exchange for the agreed-upon fixed term, lending institutions usually offer higher interest rates for CDs than for accounts that permit on-demand withdrawal of funds. Removal of funds before maturity could result in an early-withdrawal penalty.

Charitable Remainder Trust - An arrangement in which a person donates property or money to a charity but retains ownership of that property and continues to use it or profit from it while living. The donor, or grantor, is able to avoid any capital gains tax on the donated property and receives an income tax deduction for the fair market value of the interest earned on the trust. The asset also is removed from the grantor's estate, thereby reducing estate taxes. A contribution made in this manner is irrevocable, but a grantor often has some control over how the donated asset is invested.

Compound Interest - Interest calculated using both the accrued interest of prior periods and the initial principal.

Cost-of-Living Adjustment (COLA) - An adjustment of a salary or retirement annuity to help offset an increase in the cost of living.

Coverdell Education Savings Account - A federally sponsored, tax-advantaged investment plan aimed at saving for future education expenses. A Coverdell account is similar to a 529 plan in that money invested is tax-deferred and withdrawals for educational purposes are tax-free. However, 529 plans are for college savings only; Coverdell accounts can be used for primary, secondary and post-secondary expenses. The account typically can be transferred among family members but some restrictions apply. All savings must be expended by the beneficiary's 30th birthday; a tax penalty will be imposed for withdrawals made after that date, and for withdrawals for non-educational purposes.

Custodial Account - An account typically created at a bank, mutual fund company or brokerage firm in which an adult custodian makes investments to benefit a minor. The custodian manages the account until the minor reaches adulthood.

Debt Financing - A method of raising capital through the sale of bonds, bills or notes to individuals or institutions.

Deferred Annuity - A type of annuity that does not begin payments until a specified date. Money is accrued on a tax-deferred basis over time. A deferred annuity is often purchased with a series of periodic payments while a person is working in order to receive monthly or annual payments during retirement.

Defined Benefit Plan - A company retirement plan, such as a pension, that makes payments of a specified amount to a retired employee. Payment amounts are determined by salary history and years of employment. The company or employer bears investment risks.

Defined Contribution Plan - A company retirement plan, such as a 401(k) plan, in which the employee opts to divert a portion of his or her income to the savings account and bears any investment risks.

Direct Rollover - A tax-free transfer of assets from one retirement account or savings plan into another.

Distribution - Payment of dividends, capital gains or principal interest to beneficiaries of a security by the issuer of that security.

Diversification - A portfolio strategy to reduce risk by spreading assets over a wider selection of investments, such as stocks, bonds and real estate. Since different investment vehicles usually do not have the same volatility, diversification of a portfolio helps ensure, but does not guarantee, more consistent performance under a wide range of economic conditions.

Early Withdrawal - Removal of funds from a banking deposit or CD before its maturity date. Early withdrawal typically results in a penalty or forfeiture of interest.

Equity Financing - A method of raising capital by selling common or preferred stock to investors.

Estate - Everything a person owns, including all assets and liabilities.

Estate Planning - Preparation of a plan for managing and organizing a person's estate after death. This usually is done through a will, trusts, gifts or power of attorney.

Fixed Annuity - An investment contract offered by an insurance company that guarantees a series of fixed payments either for life or some other specified period of time.

Homeowners Insurance - Package insurance policy required by most mortgage lenders that provides coverage for loss or damage to a home and the policyholder's personal property. Homeowner's insurance policies also cover individuals for injury or property damage to another person.

Immediate Annuity - An annuity purchased with a single payment that begins to pay out right away for either a person's life or a certain number of years, whichever of the two is greater.

Inflation - A broad and progressive increase in the price of goods and services as measured by the Consumer Price Index and the Producer Price Index. As the price of goods and services continues to increase, the value of the dollar ultimately decreases because not as much can be purchased with the dollar.

Individual Retirement Account (IRA) - A tax-deferred custodial account or trust used to save for retirement. Up to $5,000 per year can be contributed to an IRA, although people 50 and older can contribute up to $6,000 annually. Earnings are tax-deferred until withdrawal of funds, beginning at age 59½. Withdrawals at retirement age are fully taxable. Early withdrawals are allowed but carry a 10-percent tax penalty. People who do not have a pension plan through a company or employer, or those who do participate in a pension plan but meet certain income guidelines, are allowed to make deductible contributions to a traditional IRA. Those contributions are deductible from income earned that year and interest accumulates tax-deferred until funds are withdrawn.

Liability - A legally binding financial obligation, debt, claim or potential loss. For companies, liabilities can include accounts payable, taxes, wages, accrued expenses and deferred revenues. There are two types of liabilities: current and long-term. Current liabilities are debts that must be settled within one year. Long-term liabilities are debts that are paid after more than a year.

Liquid - A description of an asset that can be bought and sold in a short time frame with little or no price changes, and one that can exchanged for cash without difficulty.

Life Insurance - An insurance policy that provides monetary benefits of a specified amount to designated beneficiaries when the insured dies.

Long-Term Care Insurance - An insurance policy that provides coverage for individuals who require care beyond a pre-determined period of time and outside of a hospital. Long-term care insurance is designed for individuals who are unable to perform basic daily activities on their own.

Medicaid - A state- and federally-funded program that provides medical care for low-income citizens.

Medicare - A federal program that pays for specific health care costs for people 65 years of age or older.

Money Market Account - A federally insured savings account that operates like a checking account but with more restrictions on transactions. Account holders also must maintain a minimum balance. A money market account often is used to save for upcoming investments or deposit money from the sale of recent investments. Money markets are safe and highly liquid investments. Still, they tend to offer lower interest rates as compared to bonds or other investments.

Mutual Fund - A collection of stocks or bonds operated by an investment company and comprised of money from many people. Each investor in the fund owns shares, which represent a portion of the holdings. Diversification is one of the benefits of mutual funds. Financial experts also tout the advantages of choice, liquidity and convenience. On the downside, there are fees and required minimum investments associated with mutual funds.

Net Worth - The total assets of an individual or corporation after subtracting total liabilities.

Pension - Periodic or lump-sum retirement benefits an employee receives from his or her employer's retirement plan.

Permanent Life Insurance - A type of life insurance, such as whole life or endowment, that provides continuing coverage for the life of the insured, rather than a specified period of time.

Portfolio - A collection of investments, including stocks, bonds and mutual funds, owned by one individual or organization.

Pre-Tax - The net profit before taxes have been deducted.

Principal (Amount) - The amount of money borrowed, or the portion of the borrowed money that remains unpaid. This does not include interest.

Private Mortgage Insurance (PMI) - Mortgage insurance provided by a non-government agency that protects the lender against a loss in the event of default by the borrower. The borrower pays the premium, which is included in the mortgage payment.

Prospectus - A document that is legally required of any firm offering securities for sale to the public. It is filed for approval with the Securities and Exchange Commission.

Rate of Return - The annual earning power of an investment measured by changes in current stock prices and dividends.

Renters Insurance - A type of property insurance that protects the personal property of an individual living in a rental residence. Renters insurance also provides coverage for personal liability due to injury or property damage to another person.

Required Minimum Distribution (RMD) - The annual payment of a dividend or capital gain required for an IRA holder who reaches 70 ½ years of age.

Social Security - Federal program that provides workers and their dependents with retirement and disability benefits.

Stock - An instrument that indicates equity in a corporation and signifies a claim on its proportional share in that corporation's dividends and net assets. Ownership in a corporation is calculated as the number of shares owned by an individual divided by the amount of outstanding stock.

Tax-Deferred - Income that can qualify for a postponement or deferment of taxes until a later date is considered tax-deferred. Examples include: IRA, 401(k), Keogh Plans, annuity, employee stock ownership plan, life insurance and savings bond.

Term Life Insurance - A simple and relatively inexpensive type of life insurance for a specified period of time. Term life insurance will pay the coverage amount if the insured dies within the term but does not pay anything if the insured outlives the term.

Treasury Note - A debt security issued by the federal government that has a fixed interest rate and maturity of two to 10 years.

Trust - A legal entity that allows one person - the trustee - to hold the right to control assets and property for the benefit of another person - the beneficiary.

Living Trust - A trust created during the lifetime of the grantor.

Testamentary Trust - A trust, created through a will, that takes effect after the grantor dies.

Uniform Transfers to Minors Act (UTMA) - A law that allows an adult custodian to own property or assets for the sole benefit of a minor. UTMA prohibits the minor from taking control of assets until he or she turns 21.

Variable Annuity - A life insurance annuity in which future payments are made to the holder, usually at retirement age. Payments can be in the form of a periodic payment where the amount varies with the market value of the portfolio. There also can be a fixed minimum payment with add-ons based on the rate of portfolio appreciation. The return to investors may be in the form of a periodic payment that varies with the market value of the portfolio or a fixed minimum payment with add-ons based on the rate of portfolio appreciation.

Vested - To become applicable. "Vested" is a term typically used in the context of employee stock ownership or an option program. An employee may be given equity in a corporation, for example, but full equity is not granted until that employee has worked with that corporation for a certain number of years.

Will - A legal written document directing the way in which a person's estate is to be distributed upon death.