Pensions, Defined Benefit Plans and Divorce
Key Points
  • Defined benefit plans have a monthly benefit that is determined by the Plan. The employee upon retirement may collect a fixed amount, or a flat benefit such as $1,000 per month, or a percentage.
  • Defined benefit plans are valued as of a certain date and other variables.

This type of plan promises that upon retirement the employee will receive a defined (known) monthly income for life. The yearly contributions necessary to provide the promised monthly benefit upon retirement are unknown and depend upon a number of variables, such as:

  • the amount of the monthly benefit to be received upon retirement;
  • the number of years left until retirement;
  • the length of time benefits will be received;
  • the amount of income that can be earned on yearly contributions;
  • etc.

The amount of the defined monthly benefit is determined by the type of Defined Benefit Plan. Most Defined Benefit Plans fall into one of the following categories:

Fixed Benefit Plan

This type of Defined Benefit Plan establishes the monthly benefit as a definite (fixed) percentage of the employee's remuneration. The plan usually takes the average of the annual compensation for a period of years prior to retirement and multiplies it by the fixed percentage.

Example: 50% of the average yearly compensation over the 4 consecutive plan years which produced the highest annual compensation.

Flat Benefit Plan

Under this type of Defined Benefit Plan, the employee receives a monthly benefit expressed as a fixed dollar amount, such as $1,000 per month.

Unit Benefit Plan

Upon retirement, under this type of Defined Benefit Plan, the employee will receive a monthly benefit determined by a pension unit. This unit is multiplied by each year of service for which the employee receives credit. The pension unit is a percentage of compensation, such as 2% or a defined dollar amount.

How Defined Benefit Plans are Valued

In order to determine the value of a benefit under a Defined Benefit Plan as of a specific date, the appraiser actuarially determines the present value of receiving pension benefits in the future. In other words, the appraiser determines the amount which must be invested today, so that upon retirement, the plan has sufficient funds to provide the employee with the appropriate monthly benefit for life. In determining the present value, the appraiser considers mortality, age on date of valuation and separation, normal retirement age, the monthly entitlement upon retirement, an appropriate interest rate, and other variables.

Typical Scenario:
The Jones' were married on April 30, 1970. Mr. Jones has been employed by the XYZ Company since April 15, 1965. On April 1, 1996, the Jones' separated. As of the date of separation, Mr. Jones had accrued a vested benefit of $842.14 per month payable at age 62. He was born on April 2, 1940. What is the present value of Mr. Jones' Defined Pension Benefit? The services of a pension appraiser are secured to determine the present value of the Defined Pension Benefit by the PBGC Actuarial and Mortality Tables Method, Life Expectancy Method , GATT Method or a Specific Method (dictated by state law).

Suggested Reading
Pension Issues in Divorce Pension Issues in Divorce
When couples get divorced they must decide how to divide their property. Retirement benefits (pensions) often form a substantial part of the parties' total marital estate and many times are the largest single marital asset afforded the couple. Similar to other assets, pensions are typically divisible in cases of divorce to the extent that they are acquired during the period of marriage.

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POOR UNDERSTANDING -- Many a homemaking woman faces a midlife divorce with only a sketchy understanding that her husband's pension may be their most valuable asset, and that she is entitled to a share.

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