What is a Defined Benefit Plan?

Defined-benefit plans are qualified plans where the amount of income received in retirement is determined by a formula. In traditional defined-benefit plans, the amount of the tax-deductible contribution to fund retirement income under the plan is calculated annually. Traditional plans are complex and have reporting requirements.

How do Defined Benefit Plans Work?

This type of retirement plan requires annual contributions to be made to reach a chosen level of retirement income at the predetermined future retirement date. Contributions are made using a formula to meet the target retirement income benefit. A number of factors are involved to come up with this calculation.

What Factors Determine the Contribution?

Age at Retirement – Usually at least 5 years from the year the plan is started

Income of Client – This calculation is based on the average of the highest 3 years of the client’s income. The higher the income then the higher the annual contribution will be (up to certain limits). Depending on a client’s annual income, the annual benefit received at retirement may be as much as $210,000 per year in 2015.

Client’s age – Normally the older the client is, then a larger the yearly contribution can be made into the plan.

Investment performance – After the defined benefit plan has been started, an annual actuarial calculation is made based on the performance of the investments in the plan. Annually the actual return of the portfolio will be compared to the original calculated rate in order to ensure the amount needed to be contributed into the plan is adequate to reach the future target retirement income goal.