pension

A pension is an employee retirement benefit plan that entitles a former employee (or their beneficiaries) to a series of regular fixed-sum payments during retirement.

Pension Law: An Overview

Upon retirement many workers continue to receive monetary compensation from their employer in the form of a pension. There are two main types of pensions: (1) defined benefit plans, and (2) defined contribution plans.

• Under a defined benefit plan, the benefit that an employee receives is normally based on the length of a worker’s employment and the wages they received. In such plans, each employee does not have a separate account; rather, the money to support the pensions is usually administered through a trust established by the employer.

• In contrast, under defined contribution plans the employer makes regular deposits into an account established for each employee. The employee is not guaranteed to receive a given amount during retirement because their payout is limited to the funds in their account.

Pensions are primarily governed by federal statutory law. Congress passed the Employee Retirement Income Security Act (ERISA) under its constitutional mandate to regulate interstate commerce. See U.S. Constitution, Art. I, § 8. The act was passed in response to the mismanagement of funds in direct benefit plans. All employers who engage in interstate commerce and provide defined benefit plans to their employees must abide by ERISA guidelines. 

ERISA is highly complicated and provides detailed regulations for many aspects of defined contribution plans. ERISA requires that employers provide both the Department of Labor (DOL) and its employees with detailed descriptions of pension benefits. It also outlines which employees must receive a pension (if they are offered) and requires that a percentage of the retirement benefits become vested in the employees after they have worked for a given number of years and/or reached a given age. Moreover, ERISA requires that pension plans provide benefits to beneficiaries of a qualifying deceased employee. ERISA requires employers to adequately fund pension programs and establishes fiduciary responsibilities. ERISA also established the Pension Benefit Guaranty Corporation (PBGC) to insure defined benefit plans. Employers must pay premiums so that their plans are covered by the PBGC. The termination of plans is also extensively regulated.

Congress has created tax incentives for employers to follow ERISA. Title 26 (the Internal Revenue Code) lists many requirements an employer must meet to qualify for the tax breaks. For example, pension plans must be vested and must meet minimum coverage requirements.

[Last updated in January of 2024 by the Wex Definitions Team]