Defined Benefit Pension Plans
Forty-two million American workers and retirees can rest assured that they have a guaranteed pension for life even if their employer goes out of business or their pension plan runs out of assets. They are covered by defined benefit pension plans that are insured by the Pension Benefit Guaranty Corporation (PBGC), a federal agency.
Defined benefit pension plans are traditional plans that promise workers a specific monthly benefit at retirement. The amount of the benefit is known in advance, usually based on factors such as age, earnings, and years of service . The plan may state this promised benefit as a percentage of salary and years of service with the company (for example, 1 percent of final pay times years of service), or as a specific dollar amount and years of service (for example, $30 per month at retirement for every year a person has worked for the company), or as an exact dollar amount (for example, $100 per month at retirement).
In order to be able to pay the benefits workers are earning, employers are required to make contributions to the plans. These contributions are supplemented by revenues gained through the investment of the plan assets. The employer bears the investment risk and normally the investments are made by professional money managers.
Defined benefit pension plans offer both workers and employers a number of distinct advantages.
Workers can know in advance what their retirement benefit will be.
Employers, not workers, are responsible for providing retirement benefits, and the benefits are not dependent upon the amount of salary workers are willing or able to contribute nor are they subject to the fluctuations of the stock or bond markets.
A worker can earn a reasonable retirement benefit under a defined benefit plan, even if the worker has not been covered by a retirement plan earlier in a career.
A retired worker receives a pension annuity, such as a monthly benefit, for life as does the workers surviving spouse, unless both the worker an spouse elect otherwise.
Defined benefit plans can provide additional valuable benefits to workers, such as early retirement benefits, extra spousal benefits, disability benefits, benefits for past service, increased benefits, or cost of living adjustments.
The PBGC guarantees to pay most Â and often all Â of the workers earned benefit if the employer cannot afford to pay the benefits or goes out of business.
By providing a predictable, guaranteed benefit at retirement that is valued by workers, a defined benefit plan can promote worker loyalty and help retain valuable workers.
An employer can provide a significant retirement benefit for workers, even older workers for whom no contributions have previously been made, or who did not or could not save for retirement earlier.
Defined benefit plans are flexible and can provide additional valuable benefits to workers.
An employer can design a defined benefit plan to accomplish corporate workplace goals, such as offering enhanced early retirement benefits.
Defined benefit plan assets are collectively invested, which usually results in higher investment returns.
While the employer bears the investment risks for the plan, favorable interest rates and economic conditions can reduce or eliminate an employers contribution, or make it possible to increase worker benefits at reduced or nominal cost.
PBGC Insurance: The pensions of workers covered by private defined benefit pension plans are insured by PBGC. If the employer has financial difficulties and cannot fund the pension plan, PBGC takes over the plan and begins to pay benefits to workers already retired and to others when they retire. PBGC guarantees basic pension benefits. PBGC does not guarantee such benefits as health care, vacation pay, severance pay, or other benefits that are not considered basic pension benefits. While there are legal limits to the amount PBGC pays, a majority of people still receive their full benefit.
Status of Defined Benefit Pension Plans: Today, there are approximately 45,000 private-sector defined benefit plans insured by PBGC. This compares with a high of about 114,000 in 1985. The decrease has been primarily among plans with 100 or fewer participants, while the number of large plans insured by PBGC Â those with 1,000 participants or more Â has remained relatively stable and these large plans are responsible for the steady rise in the number of workers and retirees covered by PBGC pension insurance, going from about 38 million in 1985 to 42 million today.
Future: About 50 million American workers in the private sector are not covered by a pension. Many of these workers are employed by small businesses and are lower wage earners who are less likely to be able to save for retirement. The Administration and the Congress have proposed legislation that is aimed at expanding pension coverage, including a simplified defined benefit plan, insured by PBGC, for workers employed by small businesses.