Editing Pension (section)

==Defined benefit plans==
{{Main|Defined benefit pension plan}}
A Defined Benefit (DB) pension plan is a plan in which workers accrue pension rights during their time at a firm and upon retirement the firm pays them a benefit that is a function of that worker's tenure at the firm and of their earnings.<ref>Gruber, J. (2010) Public Finance and Public Policy, Worth Publishers. G-3 (Glossary)</ref> In other words, a DB plan is a plan in which the benefit on retirement is determined by a set formula, rather than depending on investment returns. Government pensions such as [[Social Security (United States)|Social Security]] in the United States are a type of defined benefit pension plan. Traditionally, defined benefit plans for employers have been administered by institutions which exist specifically for that purpose, by large businesses, or, for [[government]] workers, by the government itself. A traditional form of defined benefit plan is the ''final salary'' plan, under which the pension paid is equal to the number of years worked, multiplied by the member's salary at retirement, multiplied by a factor known as the ''accrual rate''. The final accrued amount is available as a monthly pension or a lump sum, but usually monthly.

In the US, {{uscsub|26|414|j}} specifies a defined benefit plan to be any pension plan that is not a defined contribution plan (see below) where a defined contribution plan is any plan with individual accounts. A traditional pension plan that ''defines'' a ''benefit'' for an employee upon that employee's retirement is a defined benefit plan. In the U.S., corporate defined benefit plans, along with many other types of defined benefit plans, are governed by the Employee Retirement Income Security Act of 1974 (ERISA).<ref>Lemke and Lins, ''ERISA for Money Managers'', §1:2 (Thomson West, 2013 ed.).</ref>

In the [[United Kingdom]], benefits are typically indexed for inflation (known as [[Retail Prices Index (United Kingdom)|Retail Prices Index]] (RPI)) as required by law for registered pension plans.<ref>{{cite web |url=http://www.pensionsadvisoryservice.org.uk/Pension_Rights/Pension_Increases/ |title=The Pensions Advisory Service |publisher=The Pensions Advisory Service |access-date=2010-09-17 |archive-date=28 May 2010 |archive-url=https://web.archive.org/web/20100528052454/http://www.pensionsadvisoryservice.org.uk/Pension_Rights/Pension_Increases |url-status=dead }}</ref> Inflation during an employee's retirement affects the purchasing power of the pension; the higher the inflation rate, the lower the purchasing power of a fixed annual pension. This effect can be mitigated by providing annual increases to the pension at the rate of inflation (usually capped, for instance at 5% in any given year). This method is advantageous for the employee since it stabilizes the purchasing power of pensions to some extent.

If the pension plan allows for early retirement, payments are often reduced to recognize that the [[retiree]]s will receive the payouts for longer periods of time. In the United States, under the [[Employee Retirement Income Security Act|Employee Retirement Income Security Act of 1974]], any reduction factor less than or equal to the [[actuarial]] early retirement reduction factor is acceptable.<ref>{{cite web|title=Early Retirement Provisions in Defined Benefit Pension Plans|first=Ann C.|last=Foster|url=http://www.bls.gov/opub/cwc/archive/winter1996art3.pdf |archive-url=https://web.archive.org/web/20031206135537/http://www.bls.gov/opub/cwc/archive/winter1996art3.pdf |archive-date=2003-12-06 |url-status=live|website=bls.gov}}</ref>

Many DB plans include early retirement provisions to encourage employees to retire early, before the attainment of normal retirement age. Companies would rather hire younger employees at lower wages. Some of those provisions come in the form of additional ''temporary'' or ''supplemental benefits'', which are payable to a certain age, usually before attaining normal retirement age.<ref>{{cite book|title=Qualified Domestic Relations Order Handbook|first=Gary A.|last=Shulman|pages=199–200|publisher=Aspen Publishers Online|year=1999|isbn=978-0-7355-0665-7}}</ref>

Due to changes in pensions over the years, many pension systems, including those in [[Retirement Systems of Alabama|Alabama]], [[CalPERS|California]], [[Indiana Public Retirement System|Indiana]], and [[New York State Common Retirement|New York]], have shifted to a tiered system.<ref>{{cite web|last=Bauer|first=Elizabeth|url=https://www.forbes.com/sites/ebauer/2019/06/07/more-cautionary-tales-from-illinois-tier-ii-pensions-and-why-actuaries-matter/|title=More Cautionary Tales From Illinois: Tier II Pensions (And Why Actuaries Matter)|work=Forbes|date=7 June 2019|access-date=19 July 2020}}</ref> For a simplified example, suppose there are three employees that pay into a state pension system: Sam, Veronica, and Jessica. The state pension system has three tiers: Tier I, Tier II, and Tier III. These three tiers are based on the employee's hire date (i.e. Tier I covers 1 January 1980 (and before) to 1 January 1995, Tier II 2 January 1995 to 1 January 2010, and Tier III 1 January 2010 to present) and have different benefit provisions (e.g. Tier I employees can retire at age 50 with 80% benefits or wait until 55 with full benefits, Tier II employees can retire at age 55 with 80% benefits or wait until 60 for full benefits, Tier III employees can retire at age 65 with full benefits). Therefore, Sam, hired in June 1983, would be subject to the provisions of the Tier I scheme, whereas Veronica, hired in August 1995, would be permitted to retire at age 60 with full benefits and Jessica, hired in December 2014, would not be able to retire with full benefits until she became 65.

===Criticisms===
{{more citations needed section|date=October 2015}}
Traditional defined benefit plan designs (because of their typically flat accrual rate and the decreasing time for interest discounting as people get closer to retirement age) tend to exhibit a J-shaped accrual pattern of benefits, where the present value of benefits grows quite slowly early in an employee's career and accelerates significantly in mid-career: in other words it costs more to fund the pension for older employees than for younger ones (an "age bias"). Defined benefit pensions tend to be less [[Portability (social security)|portable]] than defined contribution plans, even if the plan allows a lump sum cash benefit at termination. Most plans, however, pay their benefits as an annuity, so retirees do not bear the risk of low investment returns on contributions or of outliving their retirement income. The open-ended nature of these risks to the employer is the reason given by many employers for switching from defined benefit to defined contribution plans over recent years. The risks to the employer can sometimes be mitigated by discretionary elements in the benefit structure, for instance in the rate of increase granted on accrued pensions, both before and after retirement.

The age bias, reduced [[Portability (social security)|portability]] and open ended risk make defined benefit plans better suited to large employers with less mobile workforces, such as the public sector (which has open-ended support from taxpayers). This coupled with a lack of foresight on the employers part means a large proportion of the workforce are kept in the dark over future investment schemes.

Defined benefit plans are sometimes criticized as being paternalistic as they enable employers or plan trustees to make decisions about the type of benefits and family structures and lifestyles of their employees. However they are typically more valuable than defined contribution plans in most circumstances and for most employees (mainly because the employer tends to pay higher contributions than under defined contribution plans), so such criticism is rarely harsh.

The "cost" of a defined benefit plan is not easily calculated, and requires an actuary or actuarial software. However, even with the best of tools, the cost of a defined benefit plan will always be an estimate based on economic and financial assumptions. These assumptions include the average retirement age and lifespan of the employees, the returns to be earned by the pension plan's investments and any additional taxes or levies, such as those required by the Pension Benefit Guaranty Corporation in the U.S. So, for this arrangement, the benefit is relatively secure but the contribution is uncertain even when estimated by a professional. This has serious cost considerations and risks for the employer offering a pension plan.

One of the growing concerns with defined benefit plans is that the level of future obligations will outpace the value of assets held by the plan ([[Unfunded mandate]]). This "underfunding" dilemma can be faced by any type of defined benefit plan, private or public, but it is most acute in governmental and other public plans where political pressures and less rigorous accounting standards can result in excessive commitments to employees and retirees, but inadequate contributions. Many states and municipalities across the United States of America and Canada now face chronic pension crises.<ref name="ReferenceA"/><ref>{{Citation| last1 =Tufts| first1 =William| last2 =Fairbanks| first2 =Lee| title =Pension Ponzi: How Public-sector Unions are Bankrupting Canada's Health Care, Education and Your Retirement| place =Mississauga, Ontario| publisher =Wiley| year =2011| pages =210| url =http://fairpensionsforall.net/book/| isbn =978-1118098738| access-date =28 May 2014| archive-date =28 May 2014| archive-url =https://web.archive.org/web/20140528054920/http://fairpensionsforall.net/book/| url-status =dead}}</ref><ref>{{cite web | url =https://www.nytimes.com/2018/04/14/business/pension-finance-oregon.html | title =A$76,000 Monthly Pension: Why States and Cities Are Short on Cash | last =Walsh | first =Mary | date =14 April 2018 | website =The New York Times | access-date =1 May 2018 | quote =Oregon – like many other states and cities, including New Jersey, Kentucky and Connecticut – is caught in a fiscal squeeze of its own making. Its economy is growing, but the cost of its state-run pension system is growing faster. }}</ref>