The Defined Benefit Plans used to be the standard for pension plans. Over the last 10 years, many companies have been phasing out these plans in favour of Defined Contribution Plans. at http://maryrue03august.bravesites.com/entries/financial-services/benefit-of-pension-plan-work

1. Benefit of Pension Plan Work
The DefinedBenefitPlans usedto be the standard forpensionplans.Over the last10 years,many
companieshave beenphasingoutthese plansinfavourof DefinedContributionPlans.Some
companiesmaygive youthe optionof switchingbetweenthemaswell,orconvertingfromone type
to another.Thisarticle isfocusedonthe DefinedBenefitPlan.If youstartworkingfora company
today,youwill mostlikelybe offeredaDefinedContributionPlanunlessyouworkforthe public
sector,a unionizedenvironment,ora companywitha longstandingdefinedbenefitplan.
How doI knowthe difference betweenthe twoplans?See the definitionsbelow.The wordsinbold
are terminologyyouwill oftensee inthe discussionof definedbenefitpensionplans.
DefinedBenefitandDefinedContributionPlansDefined
A definedbenefitplanisapensionplanwhere the futurepayoutinretirementisdefinedbyaset
formulawhenyoujointhe company.Itisa calculationthatusuallyincludesyourhighestaverage
salary,time workinginthe company,andhow much moneywascontributedbyyouandthe
employer.The moneyisinvestedonyourbehalf andthe firmisresponsible forriskif something
goeswrong.There isusuallyanimpliedrate of returnthatis guaranteedbyyouremployereach
year,whichisthe investmentrate of returnyourmoneywouldearnif youcouldsee yourpension
planin a bankaccount.
A definedcontributionplaniswhere the moneyyoupayintothe planisdefined:the amount
contributedeitherbyyouor on yourbehalf bythe company.It isa setdollaramountbasedonyour
salaryin the yearthat you are working.Youcan thinkof itas the company(andsometimesyouand
the company) contributingtoyourpensionaccount.Thisissimilartoa RegisteredRetirement
SavingsPlan(RRSP) account,exceptthatitislockedin.Lockedinmeansthat the moneyisin your
name and youare entitledtothe money,butcannotwithdraw itunlessthere isaveryexceptional
circumstance.(i.e.thisisthe onlymoneyIhave andI needtopay mybills).AlsolikeanRRSP
Account,youget to choose the investmentsinthe definedcontributionscenario,andyouare taking
the risks.If you investina fundandit losesmoney,youmustdeal withthe consequences.Itisfor
thisreason that itis goodto have a plan.If youare in a situationwhere youhave adefined
contributionaccount,youwill have tomake the decisions.
I knowthat I have a DefinedBenefitPlan,WhatNow?
The good newsisthat definedbenefitplanstendtoworkwithoutmanydecisionsbeingmade on
your part.This article isdesignedtomake youaware of how theyworkso that youcan be aware of
potential changesandmake decisionssuchasbenefitschanges,whethertostayat your employera
certainnumberof years,whethertotransferyourpensiontoanotherinstitution,orconvertto
anothertype of plan(i.e.The DefinedContributionPlan).Youmayalsobe givenwarningif the
promisesthatwere made toyou whenyoujoinedthe pensionplangetchangedbythe time you
actuallyreceive paymentinretirement.

2. How DoesIt Work?
A definedbenefitpensionplanisbasicallyagiantbankaccount,coveringretirementformany
employeesinanorganizationoveralongperiodof time.The employeesandthe employer
contribute moneyeveryyear,andthismoneyiscollectedinthisaccount.The entitythatmanages
thisbankaccount is calledthe plansponsor.Thisaccountistypicallyrunseparatelyfromthe
companyoperations,orfromthe institutionitrepresents.Forexample,the GMpensionplanisa
separate entityfromGMthe corporation.The onlyrelationshipthe pensionplanandthe underlying
companyshouldhave isforcompanycontributions,addingmoneytoincrease fundingof the plan,or
removingmoneyoverandabove the projectedamountneededtopaythe presentandfuture
pensioners.If there isanyothermoneytransferbetweenthe pensionplanandthe company,this
shouldbe monitoredasitmay signal fundingproblems,ora permanentchange inthe structure of
the pension plan(forexamplecompanymergers,amalgamationsordivisionsplitoff fromthe parent
company).
Once moneyisdepositedintothisbankaccount,itisinvestedforalongperiodof time toensure
that there isenoughmoneytopaythe future obligation.The amountof moneypromisedtofuture
pensionersistabulated,andthisamountisdiscountedbacktothe present,usinganinterestrate
calleda discountrate.Thismeansthatan equivalentamountof moneyinvestedinthe currentyear
iscalculatedto equal thisexpectedfuture obligation.The calculationof the future obligation
determinesanexpectedrate of returnwhichisthe returnnecessaryforthe moneysittinginthe
bankaccount to pay the future obligationandoperate the pensionplan.How dothey know how
much theywill have topay?Thisis where the actuarycomesin.The actuary estimateshow long
people willcontributeandwithdrawmoneyfromthe pensionplanbasedonlifeexpectancy,
economicconditions,expensesof runningthe plan,the investmentreturnsandinflationamong
otherthingsto come up witha projectedbenefitobligation.The currenthealthof the planoverall is
measuredusinganasset-liabilitystudy,whichisexactlywhatitsoundslike - astudyof the assets
(moneyexpectedto be generatedbythe plan) andthe liabilities(moneythatisexpectedtobe paid
out bythe plan),orthe fundingsituationof the pensionplan.There candifferentversionsof this
calculationdue tovaryingassumptions.If youare verykeen,youcanfindthe assumptionsinthe
financial reportsof yourpensionplanandsee whatthe variationsare.Since these calculationsare
projectingwayoutintothe future,a small change inan assumptionwill meanabigchange inthe
result.Keepaneye onthisover the yearsto see whattrendsmay be impactingthe numbers.This
asset-liabilitystudyalsodetermineswhetherthere isasurplusinthe plan,or itisoverfunded(more
moneyinthe planthat the most currentestimate requirestocoverthe future obligation) ora deficit
inthe plan,or itis underfunded(lessmoneyinthe planthanthe most currentestimate requiresto
coverthe future obligation).If adeficitbecomestoolarge andstaysthere fora periodof time,the
planmay become insolvent.Thisisverysimilartoa companythat goesinsolventbecause itranout
of cash andcouldn'tsustainitsbusinessanylonger.If thishappens,the governmentmaybail outthe
plan,butthisdependsonthe jurisdiction,fundsavailableandwillingnessof the government.The
alternative istowindupthe planandwhatevermoneyisleftoverisdividedamongthe stakeholders
(the pensioners,contributorsandentitiesthatoperate the plan).Thisissimilartoa bankruptcy
proceedingforacorporation.
Contributions

3. Contributionsrepresentthe moneyputintothe pensionplanbyyouandyouremployer.The
contributionamountisusuallybasedonapercentage of salary,andconsequentlythe payoutin
retirementisalsobasedonyoursalary.The specificcalculationof the payoutwill varyforeachplan -
thisshouldbe checkedwithyouremployer.The retirementcalculatorsprovidedatyourworkplace
are veryhandyfor figuringoutyourprojectedretirementmonthlypayout.Since the numbersare
projectingwell outintothe future,unlessyouare within5yearsof your retirement,the numbers
will likelychange bythe time youactuallyreceivepayments.The ratioof moneyyouare contributing
versusthe employerwill varybyplanandovertime.Generally,the lessyoucontribute,the better
off youare if you receive the same benefits.Checkyourpaystubto make sure that the amount
deductedequalsthe amountthatshouldbe deducted.If itisnot,ask why.There may be some
additional deductionsorchangestothe percentagesthatyoumay notbe aware of.In some plans,
youdon't see whatthe employercontributes - youonlysee whatyouhave contributed.If youknow
the percentagesof bothparties,youcan figure outhow muchyou are actuallygetting.Also,fortax
purposes,the companywill reflectcontributionsfrombothpartiesonyourtax slips,asthe total
dollaramountwill impactRRSPcontributionroomandtax planning.Changestocontributionsand
benefitsare usuallyreflectedafterunioncontractnegotiations,orafterasset-liabilitystudiesare
carriedout whichdeterminehowmuchmoneythe planwill needtopaythe pensioners,andhow
much youthe contributorwill needtopay.
Vesting
"Vesting"or"VestingPeriod"isthe time afterwhichyouare entitledtobenefitsor payment,either
nowor in the future.Whenyoufirstjoina pensionplan,the firstvestingperiodisthe time whenyou
are entitledtothe employercontributions.Itcouldbe yourfirstday of employment,ormonthsand
yearsout intothe future fromyour firstdayof employment.There maybe othervestingperiods -
timesat whichyouare entitledtopensionpayments,orhealthbenefitsaswell aspensionpayouts.
Many definedbenefitpensionplanswill includeaccesstohealthinsurance,andhow muchis
coveredistypicallywhatyoureceive whenyouare working - butthisvariesandmust be verified
withyouremployer.There maybe a vestingperiodforwhenyoucantake earlyretirement.Thisis
usuallycalledearlyretirementratherthanvesting,butthe ideaisthe same.If youstopcontributing
to the pensionplan,youwill loseanythingthatisnot vested.Note thatyoumayleave the company
and returnto the companybut continue contributinginyourabsence.Whateverisvestedcaneither
be takenwithyou,or receivedasa deferredpaymentinthe future.The tabulationsthatare done
withthe retirementcalculatorsalwaysassume youwillcontributeall the wayupto yourretirement
withoutinterruption.If youleave earlier,youneedtocalculate adeferredpayment,whereyou
inputthe start and stopdate of your contributions,andhow muchmoneyyouput inoverthis
period.If youare familiarwiththe conceptof anannuity,thisisverysimilar.
Indexing
Whenmost pensioncalculationsare done,itisassumedthatthere isnoinflationinthe numbers.If
yousee the term "real rate of return",thisinterestrate wouldinclude inflation,andwouldequalthe
nominal rate of return,or typical interestrate thatisquoted,minusthe inflationrate.Asan
example,if youreceiveda5%returnon your mutual fundlastyear,and the inflationrate was2%,
your real rate of returnwouldbe 5%-2%or 3%.Why doesthismatter?Typicallypensionpayments
are fixed - once a paymentiscalculateduponreachingretirement,itstaysthe same throughout

4. retirement.The problemisthatwhenyouretire,youare supposedtohave enoughmoneytopay
your expenseswiththispensionpayout.If the rate of inflationis2% everyyearupto your
retirement,thisislikesayingyoucanbuy2% lessstuff everyyear.If the promisedpensionpayment
is$2000 permonthtoday,and you retire in20 years,this2% inflationrate wouldreducethe amount
of stuff youcan buyby 40% (2%x 20 years).If thiscontinueswhileyouare retired,say another20
years,thismoneywill nowbuy80% lessstuff thantoday.Imagine payingbillswith80% lessmoney!
Indexingraisesthe payoutcalculationsbythe amountof the inflationrate topreventthiserosionof
monetaryvalue fromhappening.Inflationisactuallyaverypersonal thing - the price increasesof the
stuff youpersonallyspendyourmoneyon,iswhatwill impactyouthe most.The pensionplans
assume thatyou buythe same quantityof stuff andinthe same proportionsasthe average,or
quotedinflationrate.Thisislikelynottrue,butitisbetterthanno indexingatall.Some pension
plansalsohave a maximumamountthattheywill index,orwill notfullyindex butonlypartially.
Checkwithyouremployerforthe calculationtoverify.
Early RetirementSpecial Features
Most planshave an optionto retire early.Theywill usuallycombine how longyouhave worked
there,oryears of service withyourage and determine athresholdforqualificationforearly
retirement.If youretire early,the rulesmaychange.Theymaygive youa reducedpensionfora
periodof time,orsome otherbenefit.Thisishighlyspecifictoyouremployer,sodothe homework
on thisone.These featuresalsochange overtime.The more the employerwantsyoutoretire,the
betteran offertheywill provide.Anotherindicatoristhatthe more moneythe pensionplanhas,or
the betterthe fundingsituation,the lowerthe contributionswillbe andthe betterthe early
retirementtermswill be.The closeryouare to retirement,the more these featureswill impactyou.
Retiringearlyisa verypersonal decision,asitwill affectyourretirementplan,tax status,income and
employability.Make sure youplancarefullyif youare offeredearlyretirement,anddowhatis best
for yourneeds.
RRSP Effect
The governmentviewsall of yourpensionaccountstogetherwhenitcomestocontributionroom.
The RRSP room that youare allowedwill include definedbenefitpensionplanroom, aswell asall
othertypesof retirementaccounts.Asanexample,if youare allowed$12000 worthof RRSP room,
and the definedbenefitplancontributes$10000 inthe relevanttax year(note thatthis includes
your contributionsandthose of the company),youwouldhave $2000 leftforadditional
contributions toanothertype of retirementaccount.
What Aboutthe CPP?
The CPP contributionsare alsoaccountedforwithyourdefinedpensionplan.The employerwill
account forthe CPPlimitswhencalculatingyourdefinedpensioncontributions.Whenyouretire,the
pensioncalculatorthatyouuse to determine how muchmoneyyoureceive inretirementaccounts
for CPPentitlementsaswell.Howthisaccountingisdone will dependonyoursalaryandthe CPP
contributioncalculationsforthe yearinquestion.Thiswouldbe anotherquestionforyour
employer.Whenyouare retired,youwouldreceivethe CPPPaymentandthe DefinedBenefit
Pensionpaymentseparately,andthe OldAge Supplement(OAS) if applicable.

5. What if I Leave the Company?
If you leave the companyandyouare vested,youcanleave the moneywithyourformeremployer,
or take it withyouto anotherinstitution.If youleave itwithyouremployer,youwillbe able to
receive itwhenyoureachretirementage - thisiscalleda"deferredpayment".Itmayalsomeana
seriesof paymentsovertime - thisissomethingIwouldaskthe employer,especiallyif youwill be
retiringinthe next10 years.Since itisa pensionplan,itwill remainlockedinuntil youare of
retirementage.Itwouldbe keptseparate fromothernon-lockedinassetsthatyoumighthave - like
RRSPs,Tax Free SavingsAccounts(TFSAs) ornon-registered(cash) accounts.There are situations
whenyoucan combine lockedinaccountsfromdifferentemployersintoasingle account.This
shouldalsobe discussedwithyourcurrentemployer.
You can alsocombine definedcontributionanddefinedbenefitplanstogetherincertainsituations -
if your currentemployerhasaway of calculatingthe value of the contributionsbetweenthe two(or
more) typesof plans.Thisisalsopossible betweendefinedbenefitplansof differenttypes.Please
ask youremployerforthe rulesof theirpensionplanuponarrivingorleavingajobto make sure you
have all of the optionsopen.Youcan alsomanage pensionmoneyyourselfonce youleave the
employer.The moneywouldgointoa LockedinRetirementAccount(LIRA),whichcanbe managed
by the same financial institutionsthatmanage RRSPaccounts.You can alsoturn thismoneyoverto a
financial plannerorbrokerif you believe theycanmanage yourmoneymore effectivelythanyou
can. There are usuallytime restrictionsonmakingthesetransfers,andrulesof protocol tofollow,so
please askyourcompanywhenyouleave the firmandgetthe properprocedure soyoucan
implementthisstrategyif youwantto.
What If I AmNot VestedYet?
If you leave the companybefore the vestingdate - yourfundswill be returnedtoyoubutemployer
contributionswill be keptbythe company.Forinformationpurposes,keeptrackof how much you
and the companycontribute fromwhenyoujoinedthe planinthe eventof mistakes.Asanaside,
alwayskeepyourstatementsandprintouthard copiesof yourrecordsin case of issueswith
accessingyourinternetbasedaccountsorlossof history.Atthe veryleast,have the recordsstored
inyour personal harddrive sotheycan be accessedwithoutrestriction.Thisisalsoagoodideafor
tax purposes.Youwantto be able to recreate youraccount situationfromstartto finishwithout
relyingonthe internet,oranyotherpartiestosupplyyouwithinformation.
To knowmore visit www.pensiondeductions.com
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