Overview: A defined benefit (DB) plan is a pension plan that provides a specific, determinable benefit upon retirement or other termination of employment. While these plans guarantee employees a certain benefit upon retirement, how much an employee receives usually depends on factors such as age, salary and years of service. DB plans are typically funded by the employer, although some plans call for employee contributions as well.
Benefits under a DB plan are based on the formula specified in the plan document. In general, the amount of the benefit will accrue for each year of employment, either as a flat dollar amount for each year worked, or as a specified percentage of compensation. Benefit formulas are typically based on years of service, a combination of earnings and years of service or a percentage of contributions. Common examples of benefit formulas that can be used are: (i) unit benefit formula; (ii) final average pay formula; and (iii) career average pay formula.
The employer bears the risk for DB plans and is responsible for ensuring that sufficient funds will be available for retirement payments. DB plans are usually insured by the Pension Benefit Guaranty Corporation (PBGC). Employers pay a per participant insurance premium on an annual basis. If the plan in underfunded, the employer pays an additional variable rate premium.
Author: Tracy Morley, SPHR, Legal Editor
Updated to reflect IRS guidance issued in July 2016 on the modified determination letter program.
The Internal Revenue Service (IRS) has announced the tax year 2016 cost-of-living adjustments affecting dollar limitations on benefits and contributions under qualified retirement plans and other inflation-adjusted amounts. The pension plan limitations will not change for 2016 because the increase in the cost-of-living index did not meet the statutory thresholds that trigger their adjustment
Notice 2012-76 should be used by plan sponsors and practitioners submitting determination letter applications from February 1, 2013, through January 31, 2014.
Employment glossary definition of Defined Benefit Plan.
Employment glossary definition of Floor Offset Plan.
Employment glossary definition of PBO (Pension Benefit Obligation).