Defined Benefit Pension Plan Law and Legal Definition
Defined benefit pension plan is a retirement plan that uses a specific formula to calculate the amount of an employee’s future benefit. The most common type of formula is based on the employee’s terminal earnings. Under this formula, benefits are based on a percentage of average earnings during a specified number of years at the end of a worker’s career multiplied by the maximum number of years of credited service under the plan. A new type of defined benefit pension plan called a cash balance plan, has become more prevalent now. Benefits are computed as a percentage of each employee’s account balance under this type of plan. Usually, employers specify a contribution based on a percentage of the employee’s earnings and a rate of interest on that contribution that will provide a predetermined amount at retirement. This amount will be usually in the form of a lump sum. In the private sector, defined benefit plans are normally funded exclusively by employer contributions. Whereas in the public sector, defined benefit plans usually require employee contributions.
