Accumulated Benefit Obligation (ABO): The actuarial present value of benefits (whether vested or non-vested) attributed, generally by the pension benefit formula, to employee service rendered before a specified date and based on employee service and compensation (if applicable) before that date. The accumulated benefit obligation differs from the projected benefit obligation in that it includes no assumption about future compensation levels. For plans with flat-benefit or non-pay-related pension benefit formulas, the accumulated benefit obligation and the projected benefit obligation are the same.
- Quantifies the retirement benefits ACCUMULATED up to a specific date
- Only includes service credit and earnings prior to the date and does not consider future salary changes
Actuarial Present Value: The value, as of a specified date, of an amount or series of amounts payable or receivable thereafter, with each amount adjusted to reflect the time value of money (through discounts for interest) and the probability of payment (by means of decrements for events such as death, disability, withdrawal, or retirement) between the specified date and the expected date of payment.
- The computed value of future payments as of a specific date that considers increases due to compounding interest & gains, and how likely the plan will make payments to beneficiaries and for how long.
Actuary: An actuary is a business professional who analyzes the financial consequences of risk. Actuaries use mathematics, statistics, and financial theory to study uncertain future events, especially those of concern to insurance and pension programs. Actuaries may work for insurance companies, consulting firms, government, employee benefits departments of large corporations, hospitals, banks and investment firms, or, more generally, in businesses that need to manage financial risk.
Assumptions: Estimates of the occurrence of future events affecting pension costs and other postretirement benefit costs (as applicable), such as turnover, retirement age, mortality, withdrawal, disablement, dependency status, per capita claims costs by age, health care cost trend rates, levels of Medicare and other health care providers’ reimbursements, changes in compensation and national pension benefits, and discount rates to reflect the time value of money.
- Considers events that affect the financial solvency of a retirement plan and their effects on the ability of the plan to pay benefits AND how likely those events are to occur
Benefits: The monetary or in-kind benefits or benefit coverage to which participants may be entitled under a pension plan or a health and welfare plan (which can include active, terminated, and retired employees or their dependents or beneficiaries). Examples of benefits may include, but are not limited to, health care benefits, life insurance, legal, educational, and advisory services, pension benefits, disability benefits, death benefits, and benefits due to termination of employment.
- The expected distribution to employees in a retirement plan
Defined Benefit Pension Plan: A pension plan that defines an amount of pension benefit to be provided, usually as a function of one or more factors such as age, years of service, or compensation.
- Often referred to as the DB, ‘A’ Plan, or Pension Plan at FedEx
Defined Contribution Plan: A plan that provides an individual account for each participant and provides benefits that are based on all of the following: amounts contributed to the participant’s account by the employer or employee; investment experience; and any forfeitures allocated to the account, less any administrative expenses charged to the plan.
- At FedEx, this is the Pilots’ Retirement Savings Plan (PRSP), currently at Vanguard. In the past, this included reference to the Pilots’ Money Purchase Pension Plan (PMPPP) or ‘B’ Plan.
Discount Rate: A rate or rates used to reflect the time value of money. Discount rates are used in determining the present value as of the measurement date of future cash flows currently expected to be required to satisfy the pension obligation or other post-retirement benefit obligation.
- A hypothetical rate of return that provides a reasonable measurement of the amount of assets needed today to provide estimated benefits in the future
Employee Retirement Income Security Act (ERISA)
- ERISA is a federal law that sets minimum standards for most voluntarily established pension and health plans in private industry to provide protection for individuals in these plans.
- ERISA requires plans to inform participants of plan features and funding levels; imposesfiduciary responsibilities on those who manage and control plan assets; requires plans to establish a claims and appeals process for participants to get benefits from their plans; and gives participants the right to sue for benefits and breaches of fiduciary duty.
- ERISA contains rules for calculating the minimum required and maximum tax-deductible contributions for qualified defined benefit plans. Congress has amended these rules several times since ERISA’s enactment.
Fair Value of Plan Assets
- The amount at which an asset (or liability) could be bought (or incurred) or sold (or settled) in a current transaction between willing parties, that is, other than in a forced or liquidation sale.
- Plan assets are the assets of a funded defined benefit plan. A funded defined benefit plan is one in which the employer contributes an amount periodically to the fund and the amounts are managed by a pension fund manager and invested in different asset classes.
- The value of plan assets increase due to additional contributions received from the employer and due to returns earned by the assets and decrease due to benefits paid out to employees. The return on plan assets include interest earned, dividends earned, realized and unrealized gains or losses less administrative costs of the plan. They are carried at fair value at the balance sheet date.
Fiduciary: The Employee Retirement Income Security Act (ERISA) protects your plan’s assets by requiring that those persons or entities who exercise discretionary control or authority over plan management or plan assets, anyone with discretionary authority or responsibility for the administration of a plan, or anyone who provides investment advice to a plan for compensation or has any authority or responsibility to do so are subject to fiduciary responsibilities. Plan fiduciaries include, for example, plan trustees, plan administrators, and members of a plan’s investment committee.
The primary responsibility of fiduciaries is to run the plan solely in the interest of participants and beneficiaries and for the exclusive purpose of providing benefits and paying plan expenses. Fiduciaries must act prudently and must diversify the plan’s investments in order to minimize the risk of large losses. In addition, they must follow the terms of plan documents to the extent that the plan terms are consistent with ERISA.
Final-Pay Formula: A benefit formula that bases benefits on the employee’s compensation over a specified number of years near the end of the employee’s service period or on the employee’s highest compensation periods. For example, a plan might provide annual pension benefits equal to 1 percent of the employee’s average salary for the last 5 years (or the highest consecutive 5 years) for each year of service. A final-pay plan is a plan with such a formula.
- Referred to as Final Average Earnings, this amount determines the baseline (along with other factors – years of service) by which a retirement benefit is computed.
Financial Accounting Standards Board (FASB)
- TheFinancial Accounting Standards Board (FASB) is a private, not-for-profit organization that establishes financial accounting and reporting standards for public and private companies in the United States that follow Generally Accepted Accounting Principles (GAAP). These standards govern a company’s preparation of financial reports. The mission of the FASB is to establish and improve financial accounting and reporting standards in order to provide useful information to the public, investors and stakeholders on how to most effectively understand financial statements.
Net Periodic Pension Cost: The amount recognized in an employer’s financial statements as the cost of a pension plan for a period. Components of net periodic pension cost are 1) service cost, 2) interest cost, 3) actual return on plan assets, 4) gain or loss, 5) amortization of prior service cost or credit, and 6) amortization of the transition asset or obligation.
- Service Cost: A component of net periodic pension cost recognized in a period determined as the actuarial present value of benefits attributed by the pension benefit formula to services rendered by employees during that period. The service cost component is a portion of the projected benefit obligation and is unaffected by the funded status of the plan
- Interest Cost: The amount recognized in a period determined as the increase in the projected benefit obligation due to the passage of time.
- Actual Return on Plan Assets: For a funded plan, the actual return on plan assets is determined as the difference between the fair value of plan assets at the end of the period and the fair value at the beginning of the period, adjusted for contributions and payments of benefits during the period.
- Gain or Loss: The sum of the difference between the actual return on plan assets and the expected return on plan assets and the amortization of the net gain or loss recognized in accumulated other comprehensive income. The gain or loss component is the net effect of delayed recognition of gains and losses in determining net periodic pension cost (the net change in the gain or loss) in accumulated other comprehensive income except that it does not include changes in the projected benefit obligation occurring during the period and deferred for later recognition in net periodic pension cost. Some companies, like FedEx, have elected to use a “mark-to-market” accounting methodology to recognize actuarial gains and losses. Instead of amortizing those gains and losses over a period of years as allowed under the accounting rules, FedEx has elected to immediately recognize them. FedEx has also elected to stop using a corridor that would limit the amount of gains and losses that must be recognized.
- Amortization of Prior Service Cost or Credit: A plan amendment may result in an increase or decrease in the projected benefit obligation. Such increase or decrease is considered a prior service cost or credit, and is generally amortized over the average remaining service period for employees expected to receive benefits under the plan. Amortization charges or credits continue each year at the same level until the end of the amortization period.
- Amortization of the Transition Asset or Obligation: Phased recognition on the income statement of the difference between the plan’s funded status (PBO less plan assets) and the accrued or prepaid cost on the company’s balance sheet when companies first transitioned to this statement.
- Basically, this is the annual accounting expense or income a company must recognize in their income statement, and direct adjustments to the plan sponsor’s balance sheet.
- There are times when a qualified plan won’t accomplish an employer’s goals. For instance, a company may want to defer a greater amount for retirement than is permitted within a qualified plan. In cases like these, non-qualified plans are used to achieve specialized objectives.
- In order for taxation of amounts set aside in a non-qualified plan to be deferred, the assets in the plan must be subject to the risk of forfeiture. This means that if the employer files for bankruptcy, the assets in a non-qualified plan are subject to the claims of the employer’s creditors.
Participant: Any employee or former employee, or any member or former member of a trade or other employee association, or the beneficiaries of those individuals, for whom there are pension plan benefits or other accumulated plan benefits.
- Current and former employees with accumulated retirement benefits
Pension Benefits: Periodic (usually monthly) payments made pursuant to the terms of the pension plan to a person who has retired from employment or to that person’s beneficiary.
- The benefit a retired employee receives at a specified interval
Pension Benefit Formula: The basis for determining payments to which participants may be entitled under a pension plan. Pension benefit formulas usually refer to the employee’s service or compensation or both. Sometimes referred to as a plan’s benefit formula or benefit formula.
- The method pension benefits are computed
- Can vary significantly by plan, even within a single employer
Pension Benefit Guaranty Corporation (PBGC)
- PBGC is a federal agency created by ERISA to protect pension benefits in private-sector defined benefit plans. If a plan terminates without sufficient money to pay all benefits, the PBGC’s insurance program will pay the benefit provided by the pension plan up to the limits set by law.
- The PBGC’s financing comes from insurance premiums paid by employers whose plans the PBGC protects, from the PBGC’s investments from the assets of pension plans that the PBGC takes over as trustee, and from recoveries from the employers formerly responsible for the plans, but not from taxes.
- The PBGC insures most defined benefit plans offered by private-sector employers. A defined benefit plan is insured even if the employer fails to pay the required premiums.
Pension Plan Administrator: An individual or group responsible for managing the day-to-day affairs and the strategic decisions involved with a group’s pension fund/plan. More specifically, the plan administrator ensures that contributions that are required to be provided to the fund are made, the proper asset allocation decisions are made and that payouts are promptly distributed among all qualified plan participants or beneficiaries.
Pension Protection Act of 2006 (PPA)
- Prompted by the termination of several large defined benefit pension plans and the increasing deficit of the PBGC, the PPA was designed to increase the minimum funding requirements for pension plans and strengthen the pension insurance system.
- The PPA was the most comprehensive reform of the nation’s pension laws since the enactment of ERISA. It established new funding requirements for defined benefit pensions and included reforms that affect cash balance pension plans, defined contribution plans, and deferred compensation plans for executives and highly compensated employees.
Plan Sponsor: The employer in the case of an employee benefit plan established or maintained by a single employer who establishes, maintains, and finances a retirement plan.
Plan Suspension: An event in which the pension plan is frozen and no further benefits accrue. Future service may continue to be the basis for vesting of non-vested benefits existing at the date of suspension. The plan may still hold assets, pay benefits already accrued, and receive additional employer contributions for any unfunded benefits. Employees may or may not continue working for the employer.
- Sometimes referred to as a ‘soft freeze’
- Some benefit aspects may continue to be accrued (years of service, average income, etc)
Plan Termination: An event in which the pension plan ceases to exist and all benefits are settled by the purchase of insurance contracts (for example, annuities) or by other means. The plan may or may not be replaced by another plan.
- Can be a voluntary or involuntary/distress termination
Projected Benefit Obligation (PBO): The actuarial present value as of a date of all benefits attributed by the pension benefit formula to employee service rendered before that date. The projected benefit obligation is measured using assumptions as to future compensation levels if the pension benefit formula is based on those future compensation levels (pay-related, final-pay, final-average-pay, or career-average-pay plans).
- The obligation a company reasonably expects to incur as a result of current employees accumulating retirement benefits that takes into consideration future pay changes
- A qualified plan is established by an employer to provide retirement benefits for its employees and their beneficiaries. A qualified plan may be a defined-benefit plan or a defined-contribution plan. Qualified plans allow the employer a tax deduction for contributions it makes to the plan, and employees typically do not pay taxes on plan assets until these assets are distributed; furthermore, earnings on qualified plan assets are tax deferred.
- A qualified plan must satisfy the Internal Revenue Code (IRC) in both form and operation. That means that the provisions in the plan document must satisfy the requirements of the IRC and that those plan provisions must be followed. Employers should establish practices and procedures to ensure that the plan is operated in accordance with the plan document so participants and beneficiaries receive their proper retirement benefits. Be aware that the law and regulations in the retirement plans area frequently change.
Retirement Plan Consultant: Professionals whose focus is working with plan sponsors to develop, deliver, and implement retirement plan solutions. Advising clients on plan design, investment due-diligence and overall fiduciary management are their primary responsibilities.
Single Employer Plan: A pension plan or other post-retirement benefit plan that is maintained by one employer.
- The FedEx retirement plan is classified as a Single Employer Plan
Unfunded Projected Benefit Obligation (UPBO): The excess of the projected benefit obligation over plan assets.
- A measurable shortfall identified by the difference between existing plan assets and the projected benefit obligation
Vested Benefits: Benefits for which the employee’s right to receive a present or future pension benefit is no longer contingent on remaining in the service of the employer. (Other conditions, such as inadequacy of the pension fund, bankruptcy, etc. may prevent the employee from receiving the vested benefit.)
- An assurance that accumulated benefits will be provided without regard to the employees continued service to the employer