Defined Benefit (DB) Pension Plans

If you’re in a DB pension plan and retire from your organization, you will receive a monthly payment for life based on your plan’s formula and other factors. A defined benefit (DB) plan specifically defines the amount of retirement benefit payable to each plan member based on a formula. It considers both years of service and earnings. It’s intended to relate a member’s retirement income to pre-retirement earnings.  

In 2011, the median amount of private pensions received in 2011, was $11,700.

Normal Form

Pension plans state, in their plan documents, their normal forms of pension. It may or may not be the same for married or single employees. If it conflicts with pension legislation, the legislation may require the employee to choose a different form of pension. Two common examples of the normal form are the following:

  1. Single life with a 10-year guarantee: Under this form you receive a payment for life but if you die within the first 10 years of retirement, the payments remaining (until the 10-year guarantee period is over) will be sent to your beneficiary or your estate.
  1. Joint and last survivor 60%: Payment for life but upon the death of the retiree, the payments will continue for the surviving spouse/partner (typically your spouse/partner at the time you retired) for life, however, at a reduced amount of 60%.

If the normal form is a single life pension and you have a recognized pension partner, pension legislation requires you to choose a joint and last survivor pension of at least 60%. Your initial pension payment would be reduced, to provide the survivor pension. There is a provision for a spouse/partner to waive his or her rights, but only after receiving independent legal advice about the consequences. 

Organizations may offer one or several optional forms of payment. By choosing a form that offers a greater benefit (such as, 15 years guaranteed), your initial payment will be lower. A reduced benefit (such as no guarantee) will provide a higher initial payment. Once you have set your retirement date, your employer will usually provide you with a summary of the available options with actual dollar figures attached to each one. Consider carefully the ramifications of each option before choosing.

Reduced or Unreduced Pension?

Are you retiring with a reduced or unreduced pension? An unreduced pension means you’ve met the criteria for normal retirement, either a specific age or a target date of age plus years of service.

A reduced pension means you’re taking early retirement. You haven’t reached the criteria set out for normal (unreduced) retirement. Your pension is calculated based on the plan’s formula and then reduced by a set percentage for every year you are below normal retirement age (or a target date, if allowed by your plan). Taking a reduced pension may significantly reduce your pension income. You need to ensure it makes economic sense to do so.

A deferred pension is an alternative if you are terminating or retiring but not eligible for an unreduced pension. You may defer taking the pension income until you reach normal retirement age. The pension benefit will be calculated using your salary at, and years of service up to, your departure date. It’s worthwhile investigating if this would be a better or worse option than taking a reduced pension given your circumstances and the details of how each option would be calculated.

Bridge Benefit

Some DB pensions include a bridge benefit paid monthly to eligible retirees, until they reach age 65. A bridge benefit is an additional benefit on top of the basic retirement pension. It usually stops at age 65, therefore it has greater value the younger you are, when you choose to retire.

Bridge benefits and basic retirement pensions are generally not impacted should you decide to apply for early CPP/QPP (if your pensions includes a CPP/QPP offset ask your human resources contact for details). Check with your organization pension and retirement specialists for specific details on your bridge benefit.

Will My Benefits Be Indexed to Inflation?

During your retirement years, expenses will continue to rise. Your pension may have some form of cost-of-living adjustment or indexing to assist you with meeting those rising costs. This adjustment simply means that your monthly benefit (and any survivor’s pension benefits) will be increased over time. The pension plan may fix the cost-of-living adjustments to be:

  • A fixed dollar annual increase (which may be negotiated as part of a bargaining process)
  • Partly indexed to a cost-of-living index (that is, the Canadian Consumers Price Index, or CPI)
  • Fully indexed to a cost-of-living index

Alternatively, the pension plan may not offer any contractual obligation to increase the retiree’s benefit. For example, a company’s board of directors could decide periodically to increase the retiree’s pension benefit, which is called ad hoc indexing and doesn’t offer any guarantees that past indexing practices will continue into the future.

Taking a Commuted Value

If you are eligible at the time of retirement or termination, another option may be to make a lump sum withdrawal (take the commuted value) of the defined benefit pension plan. Investigate this option carefully as you are giving up an ongoing income stream for a lump sum amount. It cannot be converted directly into cash. Any pension-sourced funds must be transferred according to the relevant legislation governing your employer’s pension plan.

The forms of permitted pension payments from your DB commuted value are the same as for defined contribution (DC) pension plans. Any portion of the commuted value that exceeds the legislated limits for transferring to a locked-in, registered savings vehicle will be added to your income and subject to tax. For more information go to: Converting Pension Plan Assets.