• Glossary of Pension Terms

    Annuity: a specified income payable at regular, stated intervals for a set time period, often for the remainder

    of a recipient’s life.

    Annual required contribution (ARC): the actuarially determined pension fund contribution in a single

    year. This includes the normal cost of the plan and also may include another amount that may be required to

    pay for a portion of benefits earned in past years that have not yet been funded.

    Asset allocation: investment strategy that apportions a portfolio’s assets according to the investor’s goals,

    risk tolerance, and investment horizon. Allocation typically involves selecting assets representing different

    asset classes. The assets in each class have different levels of risk and return, and may behave differently

    over time.*

    Benefit multiplier: a fixed percentage that is typically used, in conjunction with an employee’s final average

    salary and years of service, to determine an employee’s pension benefits.

    Benefit policy: term used to describe the basis for which employees earn benefits in the plan.
    Defined benefit (DB) plan: employee retirement plan established and maintained by an employer that uses

    a predetermined formula to calculate the amount of an employee’s retirement benefit. Early DB plans

    (referred to as flat benefit plans) were commonly a set dollar amount that was the same for all employees,

    regardless of their actual compensation, or a fixed percentage of an employee’s compensation. Any employee

    who worked for the company a minimum number of years received the same dollar amount or fixed percentage

    upon retirement. Today, DB plans and their formulas are more likely to take into consideration an

    employee’s years of service; such plans are called unit benefit plans. Employer contributions to DB plans are

    determined actuarially. No individual accounts are maintained (defined contribution plans are individual

    accounts). Under federal law, any plan that is not an individual account plan is a defined benefit pension

    plan. *

    Defined contribution (DC) plan: as defined [by federal law], a plan that provides an individual retirement

    account for each participant with benefits based solely on (1) the amount contributed to the participant’s

    account plus (2) any income, expenses, gains, losses and forfeitures from other participants. Contributions to

    an account may be made by the employee or the employer. Defined contribution plans include 401(k),

    403(b) and 457 plans. Employees bear the risk of investment losses. *

    Fiduciary: person or institution legally responsible for the management, investment, and distribution of a

    fund. The trustees and administrators who are responsible for the oversight of employee benefit trust funds

    are considered fiduciaries. Fiduciaries are any person who (1) exercises any discretionary authority or control

    over the management of a plan or the management or disposition of its assets; (2) renders investment

    advice for a fee or other compensation with respect to the funds or property of a plan or has the authority to

    do so; or (3) has any discretionary authority or responsibility in the administration of a plan. *

    Funding policy: statement(s) clarifying the goals and objectives of a benefits plan, and how to achieve

    them. This policy should include the amounts and timing of contributions by employers and participants. *

    Investment policy: commonly used to describe how contributions to an employee benefit plan are to be utilized

    from the time they are received until benefits are paid. *

    Normal cost: the cost of the pension benefits earned by employees for work performed in the current year.
    Pay-as-you-go retirement system: system in which current benefits are paid out of the current year’s contributions.

    Social Security is an example of a pay-as-you-go retirement system. By contrast, defined benefit

    pension plans in the private sector and in state and local government are generally pre-funded systems.

    Pension: steady income given to a person as the result of service (e.g., employee, military) that begins when

    a specific event (e.g., disability, retirement) occurs. Pensions are typically paid monthly and based on factors

    such as years of service and prior compensation. The payment may be made by a government, employer,

    pension fund, or life insurance company. *

    Pre-funded retirement system: a system in which the benefits paid during retirement are paid for before

    retirement begins. Typically, regular contributions for each worker are made into a retirement fund during

    the course of that worker’s career, starting with the first paycheck and continuing until the last. These contributions

    are invested, and contributions accumulated investment earnings pay for benefits in retirement.

    Replacement ratio (replacement rate): ratio which compares a household’s post-retirement income from

    all sources (Social Security, pensions, and savings) to its income before retirement. The replacement ratio is

    a common measure of determining retirement income adequacy.

    Smoothing: the process of amortizing investment gains and losses over a period of time. For example,

    rather than using the market value of a fund’s assets in determining the ARC, actuaries will calculate an

    actuarial value of assets, by taking, say, a five-year average of assets. This can help to can help to reduce

    volatility in contribution rates.

    Trustee: person, bank, or trust company that has responsibility over the receipt, disbursement and investment

    of property or funds for the benefit of another party. When this responsibility is not exercised by a

    bank or trust company, it is usually exercised by a board of trustees with each trustee given one vote. *

    Unfunded actuarial accrued liability (UAAL): actuarial accrued liability that exceeds the actuarial value

    of fund assets. If the value is negative, it is referred to as a negative unfunded actuarial accrued liability, or a

    funding excess. Also referred to as unfunded actuarial liability. *

    Vesting: process by which a participant obtains non-forfeitable rights to benefits, such as an employee

    retirement plan. Typically, these rights accrue based on an employee’s years of service to an employer.

    Vesting can also refer to a set period of time (such as 60 days) before an heir specified in a will can inherit.

    This is generally done to avoid disputes over the time of death, and avoid the payment of taxes twice in a

    short period of time should multiple family members die as a result of the same event. *

     Based on definitions from Benefits and Compensation Glossary, 12th Edition, copyright 2010,

    International Foundation of Employee Benefit Plans, Brookfield, Wis. Copies of the book are available for

    purchase by calling 888-334-3327, option 4.