Which of the following is a characteristic of a defined-benefit pension plan?
A) | Contributions to the plan are typically a percentage of plan participants current pay. |
| B) | The use of defined benefit plans has grown in recent years due to the relaxation of ERISA standards. |
| C) | Defined benefit plans are less expensive to administer and young employees like the portable nature of their contributions. |
| D) | Plan sponsors bear all investment risk. They are liable for shortages and have a claim against excess returns. |
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Answer and Explanation
Retirement benefits from a defined benefit plan are based on a "defined benefit" formula. This is what the company owes the plans participants, regardless of the performance of the pension funds assets, and if the funds returns fall short of the pension obligations, the plan sponsor is liable for the difference. Defined benefit plans are costlier and riskier than defined contribution plans. Thus, defined contribution plans are the preferred pension plan for most employers. Also, since plan contributions are transferable to other plans, defined contribution plans are attractive to many young employees.
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