What is a Defined Benefit Plan?

A defined benefit plan is a pension plan. It is a "promise" of future benefits. The plan sets a specific benefit at retirement. For example, the plan may establish a benefit of "50% of salary at age 65". The salary defined may be the average of the final five years of salary before retirement. Thus, the plan is specifically targeting a set benefit and promises to supply this benefit for the life of the participant. The type of annuity benefit is also defined in the plan. It may be defined as a joint and survivor annuity with 100% of the benefit being paid to both spouses as long as they both live. It may be a "10 years certain" annuity with the benefits payable to the participant for life with 10 years of payments guaranteed even if the participant would die within the first 10 years. Various options are available including a cash payment at age 65 in lieu of an annuity payout.

The main consideration is the plan must make sure it has enough funds at any point in time to pay the benefits of all participants. To verify the plan is properly funded, an actuary must calculate the funding necessary to assure the plan benefits can be paid. The maximum benefit limit that may be promised is 100% of salary at the normal retirement age. Whatever funding is necessary to assure this benefit is allowed as a deduction for that year. There is no limit on the contribution, only a limit on the benefit funded. For the year 2006, the maximum benefit limit is 100% of salary to a dollar maximum of $175,000 annually.

A business providing a defined benefit plan must feel secure in its ability to continue funding the plan at the proper levels to assure the benefit payments to all participants. Regardless of financial circumstances, the business must fund the plan. Each year, the plan actuary verifies the plan is properly funded and this is communicated to the government in required annual reports.

A 412(i) fully insured defined benefit plan is a variation of the defined benefit plan. This type of defined benefit plan is subject to different funding requirements, which may mean a higher required contribution, level for the same benefit as a traditional defined benefit plan. The plan funding is required to be in insurance company life and annuity products that ultimately guarantee the plan benefit.

Integrity Financial Corporation helps business owners and individuals build a financial legacy through well designed executive compensation and retirement plans. Our clients can expect to receive personalized service and expertise, built on a foundation of trust. Call us at 425-454-1254 for the Seattle or Bellevue area, or at 1-800-794-401k. Or visit our website at www.ifc401k.com