Glossary of Terms Associated with Pension Plans

Benefit funds, especially pension funds, have common terminology that is not always familiar to those who don't work with the plans every day.  This glossary defines common terms used by the laws and codes (ERISA and the Internal Revenue Code) that govern how pension plans operate.  Understanding these terms will assist contractors in understanding other guidance relating to pension plans including those on withdrawal laibility.  

Accrual of Benefits. In the case of a defined benefit pension plan, the process of accumulating pension credits for years of service, expressed in the form of an annual benefit that is first paid at normal retirement age (usually age 65).

Accrual Rate. The benefit amount or percentage of pre-retirement salary earned for a year of service. Accrued Liability. The present value of future benefits less the present value of the contributions for future normal costs, taking into consideration future service.

Actuarial Liability. Actuarial cost methods generally divide the present value of future benefits into two parts: the part attributable to the past and the part attributable to the future. The part attributable to the past is called the actuarial liability while that attributable to the future is called the present value of future normal costs.

Actuarial Assumption. Assumptions about future economic and demographic developments related to the pension plan that are used by plan actuaries in calculating the annual pension contribution. One key actuarial assumption for pension funds is the interest rate assumption. This is an assumption about the investment return likely to be earned by the assets of a pension fund over a long period of time.

Actuarial Funding Method. The schedule of contributions to meet the plan’s liabilities for benefit payments. There are several allowable funding methods, and each produces a different flow of contributions. Some produce increasing contributions, others level contributions, and still others declining contributions.

Adjustable Benefits. Under the PPA adjustable benefits for plans in critical status are defined as: disability benefits not yet in pay status; early retirement benefits or retirement type subsidies; any benefit payment option other than the joint and survivor annuity; and any benefit increased that took effect no more than five (5) years before the plan was certified to be in critical status.

Amortization. Paying off a liability through a series of installments, including interest.

Annuity. (a) The specified monthly or annual payment to a pensioner, often used interchangeably with the term “pension;” (b) A contract that provides an income for a specified period of time, such as a number of years or for life; (c) The periodic payments provided under an annuity contract with a commercial insurance company.

Beneficiary. A person designated by a pension plan participant, or by the terms of an employee benefit plan, who is or may become entitled to a benefit under that plan (e.g., a spouse).

Cash Balance Plan. A cash balance plan is a defined benefit plan that defines the benefit in terms of a stated account balance. Cash balance plans are sometimes called hybrid plans because, while they are considered to be defined benefit plans, they are designed to look to participants much like defined contribution plans. The participant is credited with a percentage of pay each year in a hypothetical account on which the employer pays interest. These accounts, however, are merely accounting devices that track the worker’s accrued benefit. They are not individual accounts owned by the participants, as they would be in a defined contribution plan. As a defined benefit plan, a cash balance plan must offer participants the option of receiving an annuity at retirement age. Most cash balance plans also offer separating employees a lump sum payment in lieu of an annuity.

Current Liability. The present value of accrued benefits using an interest assumption that is within a permitted range.

Defined Benefit Plan. A pension plan that specifies the benefits or the method of determining the benefits, but not the contribution. Specification of benefits can be done in several ways: a specified amount per month for each year of service payable at retirement (dollar benefit); a stated percentage of compensation (fixed benefit); or a stated percentage of compensation for each year of service (unit benefit). Employer contributions to a defined benefit plan are determined actuarially on the basis of the benefits expected to become payable.

Defined Contribution Plan. A pension plan in which the contributions are specified, but not the benefits. Under ERISA, a defined contribution plan (also called “an individual account” plan) is a plan that provides an individual account for each participant that accrues benefits based solely on the amount contributed to the account, and any income, expenses, gains and losses, and reallocation of any forfeitures of accounts of other participants. The employee bears the investment risk.

Early Retirement. Retirement at an age younger than the normal retirement age specified in an employee pension benefit plan at which participants may first receive pension benefits. The benefit payable to an early retiree is usually reduced to account for the longer payout period.

Employee Benefit Plan. An employee welfare benefit plan or an employee pension benefit plan.

Employee Pension Benefit Plan. Any plan, fund, or program established or maintained by an employer or by an employee organization that provides retirement income or that results in the deferral of income.

Fiduciary. In the context of ERISA, a fiduciary is a person who exercises any discretionary authority or control with respect to the management of the plan or exercises any authority with respect to the management or disposition of plan assets; (2) renders investment advice for a fee or other compensation with respect to any plan asset or has any authority or responsibility to do so; or (3) has any discretionary responsibility in the administration of the plan.

Funding. A systematic program under which assets are set aside in amounts sufficient to assure the future payment of a pension plan’s promised benefits.

Funding Percentage. The actuarial value of assets over the accrued liability of the plan.

Insolvency. A plan is insolvent for a plan year if its available financial resources are insufficient to pay benefits when due for the plan year.

Joint and Survivor Annuity. An annuity paid over the joint life expectancy of the participant and spouse. ERISA requires that the annuity payable to the surviving spouse be at least 50% of the reduced annuity paid while the participant was alive. The survivor annuity is automatically provided to a qualifying spouse unless both participant and spouse elect in writing to waive it.

Market Value. A security's last reported sale price (if on an exchange) or its current bid and ask prices.

Multiemployer Pension Plan. A collectively bargained arrangement in which two or more employers in a particular trade or industry participate in one plan covering a geographical area. These plans are common in the building and construction industry, coal mining, and trucking.

Normal Cost. Annual cost of future pension benefits and administrative expenses assigned, under an actuarial cost method, for the year following the plan’s valuation date.

Normal Retirement Age. The age, as established by a plan, when retirement occurs with unreduced benefits. Since unreduced Social Security benefits were originally available at age 65, that is the most common normal retirement age used in pension plans. ERISA defines “normal retirement age” as the earlier of (a) the age at which a plan participant becomes eligible for retirement under the plan; or (b) the later of (1) the date on which a plan participant attains age 65; or (2) the fifth anniversary of the date on which a plan participant commenced participation.

PPA. Pension Protection Act of 2006, P.L. 109-280, 120 Stat. 780 (Aug. 17, 2006).

Present Value of Accrued Benefits. The value of benefits accrued to date without consideration of future salary increases or future service, expressed as a lump sum. REA. Retirement Equity Act of 1984, P.L. 98-397, 98 Stat. 1451 (1984).

Unfunded Vested Benefits. The difference between the plan’s assets and the present value of vested benefits.

Unfunded Liability. The costs of future vested benefits which have not been paid through previous contributions or investment returns.

Vesting. Earning a nonforfeitable right to a pension benefit. A plan must provide that an employee will retain, after meeting certain requirements, a right to at least some, and perhaps all, of the benefits he/she has accrued, even if the employee ceases employment under the plan before reaching the eligibility age for benefits. An employee who has met such requirements is said to have a “vested” or “nonforfeitable” right to benefits. Voluntary and mandatory employee contributions are always fully vested when received by the plan.

Withdrawal Liability. Liability assessed to an employer that completely or partially withdraws from participation in a multiemployer plan if the plan has unfunded vested benefits allocable to the employer. Withdrawal Liability was established and is governed by the Multiemployer Pension Plan Amendments Act of 1980.