A defined benefit (DB) pension plan is a type of pension plan in which an employer/sponsor promises a specified pension payment, lump-sum, or combination thereof on retirement that depends on an employee's earnings history, tenure of service and age, rather than depending directly on individual investment returns. Traditionally, many governmental and public entities, as well as a large number of corporations, provide defined benefit plans, sometimes as a means of compensating workers in lieu of increased pay.Lemke and Lins, ERISA for Money Managers, §1:1 (Thomson West, 2013).
A defined benefit plan is 'defined' in the sense that the benefit formula is defined and known in advance. Conversely, for a "defined contribution retirement saving plan," the formula for computing the employer's and employee's contributions is defined and known in advance, but the benefit to be paid out is not known in advance.
In the United States, specifies a defined benefit plan to be any pension plan that is not a defined contribution plan, 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.
The most common type of formula used is based on the employee's terminal earnings (final salary). 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.
In the private sector, defined benefit plans are often funded exclusively by employer contributions. In the public sector, defined benefit plans usually require employee contributions.
Over time, these plans may face deficits or surpluses between the money currently in the plans and the total amount of their pension obligations. Contributions may be made by the employee, the employer, or both. In many defined benefit plans, the employer bears the investment risk and can benefit from surpluses.
Overview When participating in a defined benefit pension plan, an employer/sponsor promises to pay the employees/members a specific benefit for life beginning at retirement. The benefit is calculated in advance using a formula based on age, earnings, and years of service.
The liability of the pension lies with the employer/sponsor who is responsible for making the decisions. Employer and/or employer/employee contributions to a defined benefit pension plan are based on a formula that calculates the contributions needed to meet the defined benefit. These contributions are actuarially determined taking into consideration the employee's life expectancy and normal retirement age, possible changes to interest rates, annual retirement benefit amount, and the potential for employee turnover.
Each jurisdiction would have legislation which has requirements and limitations for administering pension plans. Entitlements and limitations may also be based or established in common law. Employees are always entitled to the vested accrued benefit earned to date. If an employee leaves the company before retirement, the benefits earned so far are frozen and held in a trust for the employee until retirement age or in some instances the employee is able to take away a lump sum value or transfer the value to another pension plan.
Defined benefit plans distribute their benefits through life annuities. In a life annuity, employees receive equal periodic benefit payments (monthly, quarterly, etc.) for the rest of their lives. A defined benefit pension plan allows joint distributions so a surviving spouse can still receive 50 percent of your payment.
United States
In the United States, the maximum retirement benefit permitted in 2014 under a defined benefit plan is $210,000 (up from $205,000 in 2013). Defined benefit pension plans in the U.S. currently do not have contribution limits.
A defined benefit pension plan must allow its vested employees to receive their benefits no later than the 60th day after the end of the plan year in which they have been employed for ten years or leave their employer. Employees who reach age 65 or the specified retirement age in their plan can also collect the benefits. Starting in 2002, the maximum benefit is now reduced for retirement prior to age 62, and increased for retirement after age 65.
A defined benefit plan cannot force you to receive your benefits before normal retirement age. However, if the lump sum value of your benefit is less than $5,000, and you are vested, then the plan may simply pay your benefit as a lump sum soon after termination. The plan document has to allow for the automatic lump sum payment. However, you must begin to receive your benefits no later than April 1 of the calendar year next following the last year of employment or calendar year you reach age 70, whichever is later.
88 percent of public employees are covered by a defined benefit pension plan.
Federal public sector plans are governed by the Internal Revenue Code and Federal law, while state and local public sector plans are governed by the Internal Revenue Code and state law. Thus the funding requirements, benefits, plan solvency, and participant rights and obligations vary significantly. Private sector plans are governed by the Employee Retirement Income Security Act of 1974 (ERISA). This law contains provisions rooted in the Internal Revenue Code and enforced by the Internal Revenue Service, but, in Title I of ERISA, also provides a body of Federal law governing employee benefit plans that preempts state law. Rooted in the principles of trust law, Title I of ERISA governs the fiduciary conduct and reporting requirements of private sector employee benefits plans through a system of exclusively Federal rights and remedies. Title I is administered by the Employee Benefits Security Administration (EBSA) at the United States Department of Labor. EBSA is led by the Assistant Secretary of Labor for Employee Benefits, a Sub-Cabinet-level position requiring nomination by the President of the United States and confirmation by the United States Senate.
Benefit plan Traditionally, retirement plans 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 a 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.
The benefit in a defined benefit pension plan is determined by a formula that can incorporate the employee's pay, years of employment, age at retirement, and other factors. A simple example is a dollars times service plan design that provides a certain amount per month based on the time an employee works for a company. For example, a plan offering $100 a month per year of service would provide $3,000 per month to a retiree with 30 years of service. While this type of plan is popular among unionized workers, final average pay (FAP) remains the most common type of defined-benefit plan offered in the United States. In FAP plans, the average salary over the final years of an employee's career determines the benefit amount.
Frequently, as in Canadian government employees' pensions, the average salary uses current dollars. This results in inflation in the averaging years decreasing the cost and purchasing power of the pension. This can be avoided by converting salaries to dollars of the first year of retirement and then averaging. If that is done, then inflation has no direct effect on the purchasing power and cost of the pension at the outset.
In the United Kingdom, benefits are typically indexed for inflation (specifically the Consumer Price Index and previously the Retail Prices Index) as required by law for registered pension plans.The Pensions Advisory Service . 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, because 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 retirees will receive the payouts for longer periods of time. In the US, (under the ERISA rules), any reduction factor less than or equal to the actuarial early retirement reduction factor is acceptable.Early Retirement Provisions in Defined Benefit Pension Plans. Ann C. Foster http://www.bls.gov/opub/cwc/archive/winter1996art3.pdf
Many DB plans include early retirement provisions to encourage employees to retire early, before the attainment of normal retirement age (usually age 65). 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.Qualified Domestic Relations Order Handbook By Gary A. Shulman pp. 199-200 Published by: Aspen Publishers Online, 1999 , .
US laws and regulations In the US, defined benefit (DB) pension plans are subject to a complex framework of laws and regulations designed to ensure fairness, solvency, and proper tax treatment. The key laws and regulatory standards that govern DB plans include:
IRC § 401(a)(17): Qualified DB plans must apply compensation limits for benefit calculations. Plans must use the lesser of the employee’s actual compensation or the IRS-established cap (the "401(a)(17) limit"), which is adjusted annually for inflation. For example, in 2025, the limit is $345,000.
IRC § 415(b): Qualified plans must limit the maximum benefit a participant can receive. As of 2025, the maximum annual benefit payable at retirement age (typically age 62–65) is $275,000, subject to reductions for earlier retirement or adjustments for forms of benefit other than single life annuities.
Non-Discrimination Rules (IRC §§ 410(b), 401(a)(4), 401(a)(26)): These provisions prevent pension plans from disproportionately benefiting highly compensated employees (HCEs). Plans must cover a broad cross-section of employees, and benefits must not be structured in a way that unfairly favors executives over rank-and-file workers. IRC § 417(e): Rules governing distributions from DB plans. If a lump sum distribution is offered, it must be calculated using specified mortality tables and interest rates (e.g., the IRS "applicable interest rates"). Additionally, any election of a non-joint-and-survivor annuity requires spousal consent, with minimum survivor benefit requirements (typically 50% continuation for spouses). Anti-Assignment and Anti-Garnishment Rules (ERISA § 206(d)): Pension benefits are protected from creditors. Plan participants cannot assign their benefits to another party, nor can benefits generally be garnished to satisfy personal debts, with limited exceptions like IRS levies or qualified domestic relations orders (QDROs). Top-Heavy Rules (IRC § 416): If a DB plan disproportionately benefits "key employees" (such as owners or executives), it must provide a minimum benefit (often 2% of compensation per year of service) to non-key employees. Plans must annually test their "top-heavy" status. Minimum Funding Standards (IRC § 412 and ERISA Title IV): Employers must make minimum required contributions based on actuarial valuations. Underfunded plans can trigger excise taxes and additional reporting requirements. Funding rules were notably tightened by the Pension Protection Act of 2006 (PPA), which established new funding thresholds and accelerates corrective actions if funding levels drop too low.