Pension Vesting: Everything You Need to Know

Learn the rules so you don’t give up money that could be coming to you

Reviewed by Margaret JamesFact checked by Pete RathburnReviewed by Margaret JamesFact checked by Pete Rathburn

Defined-benefit retirement plans, or pension plans, are called “defined benefit” because both the employer and employees know in advance the formula that will be used to define and set the benefit payout. It’s important to understand how your pension vests because the vesting schedule determines when you are eligible to receive full pension benefits.

Pension vesting for defined-benefit plans can occur in different ways. Your benefits can vest immediately, or vesting may be spread out over as many as seven years. Your plan’s vesting schedule might be a factor if you’re thinking about changing jobs—you might not want to leave until you’re fully vested.

Key Takeaways

• Participants in a defined-benefit retirement plan need to understand the plan’s vesting schedule so they know when they are eligible to receive full benefits.
• Pension vesting for employer contributions in a private pension plan is set by federal law and follows either a cliff vesting or a gradual vesting schedule.
• Governmental and church pension plans are not subject to ERISA regulations.
• Exceptions to ERISA and breaks in your employment record with an employer can alter vesting and the amount of pension you’re entitled to.

You Own Your Contributions

If your employer requires or allows you to contribute part of your salary to your pension, you always own your contributions fully. In other words, if you contributed $200 to your pension with last Friday’s paycheck and you quit your job the following Monday, you would not leave any of that $200—or any of the money you contributed to your pension from previous paychecks—behind.

Pension Vesting for Employer Contributions

What you might leave behind if you change jobs, however, are your employer’s contributions to your pension plan. That’s the part that “vests,” depending on the type of plan and its vesting schedule.

The following rules apply to private defined-benefit pension plans, which are subject to a federal law called the Employee Retirement Income Security Act (ERISA). ERISA established minimum standards for pension plans that benefit participants. Defined-contribution plans, such as 401(k)s, and applicable defined-benefit plans, such as cash-balance and pension-equity plans, follow different rules (though there are some similarities).

The years of service an employee must complete with an employer to be fully vested depend on whether the pension has a cliff vesting schedule or a graduated vesting schedule.

Cliff Vesting

With a cliff vesting schedule, employees become fully vested in their pensions after a certain number of years. ERISA states that the maximum is five years for private-sector plans, but employers can allow full vesting sooner.

If your plan has a cliff vesting schedule, you will receive none of your employer’s contributions if you leave your job before your five-year anniversary. You will, however, remain vested in your own contributions.

Graduated Vesting

With graduated vesting, there is partial vesting for each year of service once you’ve served three years. For private-sector plans, at a minimum, after year three, you become 20% vested in your pension. After year four, you’re 40% vested. After year five, you’re 60% vested. After year six, you’re 80% vested. And after year seven, you’re finally 100% vested. 

Your employer may offer a more generous graduated vesting schedule, however.

“A traditional defined-benefit plan could vest 50% after two years of service and 100% after four years of service,” says actuary John Lowell, a consultant with Atlanta-based October Three Consulting, which provides retirement program design and related services.

“On the other hand,” Lowell adds, “a plan with a vesting schedule vesting 50% after four years of service and 100% after six years of service would not be acceptable, as it does not equal or exceed either of the permissible schedules at all points in time.”

When You Can Collect Benefits

Being fully vested in your pension does not mean that you can access the money immediately. Under federal law, employees earn the right to receive their pension benefits when they reach normal retirement age, in addition to meeting the years of service requirements described above.

“Normal retirement age for an ERISA-covered plan is defined by the plan,” Lowell says. However, it may not occur later than age 65 with five years of service.

Important

You may find the pension vesting schedule in the summary plan description, which you may get from your human resources department or pension plan administrator.

Exceptions to ERISA

With either the cliff or graduated vesting schedule, when calculating years of service, employers are not required to count years you worked for them before age 18, years during which you did not contribute to a plan that required employee contributions, or years when the employer didn’t maintain the plan or a predecessor plan. Employers also are not required to count any years in which you were not a regular full-time employee, although in some cases they might credit you with partial years. 

If you earned pension benefits before the mid-1980s, the rules described in the previous sections do not apply to you. According to the Pension Benefit Guaranty Corporation (PBGC), prior to the mid-1970s, pension plans usually required 20 or more years of service to be vested, and before the mid-1980s, they usually required 10 years of service. If you completed fewer years of service during these periods, you might not be vested in any pension benefits at all from those years of work.

Specifically, if you participated in a private-sector pension plan from 1974 through 1988 and your employer used a cliff vesting schedule, you were 0% vested until you completed at least 10 years of service, at which time you became 100% vested. If your employer used a graduated vesting schedule, you became 25% vested after five years of service, with a 5% vested increase each year until 15 years of service, when you were 100% vested.

Further, an exception called “the rule of 45” said that if an employee’s age and years of service totaled 45 and they had at least five years of service with that employer, then at least 50% of benefits must be vested, with at least a 10% increase each year thereafter. 

Breaks in Employment

Sometimes an individual works for a private-sector employer for several years, but those years of service are not consecutive. Would that person be vested in the employer’s pension plan?

ERISA says that if you leave an employer and return within five years, the plan is usually required to count your earlier years of service. So if you worked for a private firm from 2010 through 2012 (three years), then went to another company for 2013 and 2014 (two years) only to return to your former employer in 2015 and stay two years, you will usually be vested in your plan—either fully, if the plan uses cliff vesting, or at least partially, if the plan uses graduated vesting.

Your summary plan description should explain how your employer handles this situation. 

How Do Government Pensions Work?

If you participate in a governmental plan rather than a private-sector pension plan, the Employee Retirement Income Security Act (ERISA) does not apply. Government plans cover employees of the federal government (with, for example, FERS), any state government (with, for example, 457 plans), and any political division, agency, or instrumentality of a federal or state government, such as teachers and school administrators (with, for example, 403(b) plans).

What Is a Church Plan?

Church plans are not covered by the Employee Retirement Income Security Act (ERISA). Church plans, such as 403(b) plans, can cover not only direct church employees but also employees of a hospital, school, or nonprofit organization associated with the church.

How is a Pension Paid Out After Death?

Typically there are two payout options after a worker has died: a lump-sum payment or an annuity. These benefits are paid to whomever the employee has designated as their beneficiary.

The Bottom Line

Understanding your pension’s vesting schedule can be tricky. It’s crucial to know the rules so you can make wise decisions about whether and when to change jobs and collect all of the pension benefits to which you’re entitled when you retire.

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