National Pensions - CPA Oriented

Senior Pension Consultants

Floor Offset

A floor-offset plan uses a defined-benefit structure (with pension payments linked to years of work and high salary) to buffer the uncertainty of a defined-contribution system (where pension payments depend on the performance of investments in each employee's account).

An example shows how the floor-offset arrangement works. Suppose that a given employee who retires at age 65 would be entitled to a $2,000 monthly pension from  the defined-benefit plan. This serves as the floor. If this employee has a $100,000 balance in the profit sharing plan, the plan administrator determines how large an annuity the $100,000 could purchase. That would be about $900 per month (assuming 7% annual interest and a 15-year life expectancy). The company then would offset the $900 hypothetical annuity and pay the retiree $1,100 per month; the profit sharing balance is the retiree's to annuitize, hold, or invest as he pleases. If, however, the employee has a $300,000 profit sharing balance on retirement, an amount that could purchase an annuity of about $2,700 monthly, then the payment from the defined-benefit plan would be zero. Again the retiree retains the ability to draw down or invest the profit sharing balance. Everything works smoothly when the employee starts receiving pension benefits immediately on leaving the company.



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