Pensions

Defined Benefit Plan

A defined benefit plan outlines the benefits employees will receive when they retire. The benefits are based on employee’s years of service and wage or salary compensation in the years approaching retirement. The company must determine what the contribution should be today to meet a defined-benefit when the employee retires. Companies use many different contribution approaches.

In a defined-benefit plan the trust’s primary purpose is to safeguard and invest assets so that there will be enough to pay the employer’s obligation when the employee retires. In form the trust is a separate entity. In reality the trust assets and liabilities belong to the employer. As long as the plan continues, the employer is responsible for the payment of the defined benefit regardless to what happens in the trust. The employer must make up any shortage in the accumulated assets held by the trust. The employer can recapture any excess accumulated in the trust either by reducing future contributions or taking back any excess.

Because the defined-benefit plan specifies benefits in terms of uncertain future variables, a company must establish a funding plan to provide the benefits promised to employees at retirement. This funding depends on employee turnover, mortality, length of employee service, wage/salary compensation levels and interest earnings.

Employers are at risk with a defined-benefit plan because they must contribute enough to meet the cost of benefits that the plan defines. The expense recognized each period may not necessarily equal to the cash contributions. Also there is a difference of opinion as to the recognition of any liability because any measurement or recognition relate to an unknown future variable which cannot be determined.

1) Under the defined pension benefit pension plan employers are responsible for the payments regardless if the trust suffers a shortage. Also, employers are at risk because they must contribute enough...