Riscario

Employees often prefer Defined Benefit pension plans over Defined Contribution because risks are transferred to their employers.

• Pension Adjustment = 9 x Pension Entitlement - $600
• employees know precisely their contributions and pension benefits
• employer bears investment risk à doesn’t know its costs
• contributions determined by an actuary and adjusted (e.g., every three years)
• types:
  • flat benefit
  • career average earnings
  • final average earnings
  • best earnings

Maximum yearly pension = min{$2,000 (2005) per year of pensionable service (YOPS), 2% × YOPS × avg of best 3 consecutive years of earnings}

The maximum yearly pension is the minimum of

1. $2,000 (in 2005) per year of pensionable service (YOPS), and
2. 2% × YOPS × avg of best 3 consecutive years of earnings

• employees know the exact amount of their own contributions and their plan benefits
• employers don't know the amount of their contributions since the capital needed depends upon investment returns during the accumulation phase
  • large potential liability for employer since the employer must provide adequate funding for the promised future benefits
• upon retirement, funds can
  • buy a life annuity
  • be transferred to a LIRA or LIF
• four formulas for determining benefits
  1. best earnings
  2. final average earnings
  3. career average earnings
  4. flat benefit
• past service benefits may be available for service with employer before the pension plan was implemented
  • employer funded only → reduced benefit ( e.g., 1% per year of pensionable service versus 2%)