Is Your Defined-Benefit Pension Plan Safe?

Here’s how you can gauge its financial health for the future

Reviewed by Margaret James
Fact checked by Vikki Velasquez

Defined-benefit (DB) pension plan are complex and opaque, even to their participants, and in recent years, there have been serious concerns about the financial solvency of significant numbers of them. Here’s a look at the history of DB pension plans and some ways to evaluate their financial health.

Key Takeaways

• Until the 1980s, defined-benefit (DB) pension plans were the dominant vehicle through which U.S. employers provided retirement benefits to their employees.
• Not all DB pension plans are in sound financial shape. That is especially true of multi-employer plans for union members.
• However, the American Rescue Plan Act of 2021 provides significant aid to help multi-employer plans pay the benefits they have promised workers.

A Brief History of Pension Plans

Until the emergence of 401(k) retirement plans in the 1980s, DB plans were how most U.S. employers provided retirement benefits to their employees. During the 1960s, several large DB plans collapsed, leaving thousands of workers without promised pensions. As a result, Congress passed the Employee Retirement Income Security Act (ERISA) of 1974, with the primary goal of protecting workers’ retirement plan benefits. The same act created the Pension Benefit Guaranty Corporation (PBGC) as an independent federal agency to secure DB plan benefits in the private sector.

During the 1990s, as 401(k)s began to dominate the workplace landscape, thousands of DB plans disappeared, and many others were frozen—that is, coverage continued only for existing participants.

DB plans still have significant liabilities for future benefit payments, along with vast assets to help meet them. The Investment Company Institute reported that, as of the second quarter 2024, retirement funds in the U.S. had $40.0 trillion in assets and, of that amount, private DB plans had $3.2 trillion.

A Mixed Picture of Health for DB Plans

Some DB pension plans in the U.S. were not in the best, sound financial shape and were at risk of not being able to fulfill their promised benefits to retiring workers. The PBGC, which guarantees benefits in most private DB plans, was not in great financial shape either. However, the American Rescue Plan Act of 2021 (ARP) changed that. Before ARP, the Multi-employer Program was projected to run out of funds in fiscal year 2026.

“ARP extends the solvency of the Multiemployer Program — the new projections show a median projected insolvency date beyond 2063, the final year of the projection period,” according to a 2024 report.

Multi-employer plans typically cover unionized workers working for a variety of companies in a particular industry.

The PBGC’s Single-Employer Program, by contrast, is in better shape. “The latest projections for the Single-Employer Program show that continued future improvement is likely, with no scenarios in which the Single-Employer Program enters into a negative net position,” the report reads.

Workers also gained some added protection with the passage of the Pension Protection Act (PPA) of 2006. Among other changes, it imposed stricter rules on employers to make sure their pension plans are adequately funded.

Types of DB Plans and Their Promises

Here are the four main types of DB plans in the United States:

1. Federal Government Plans

These cover civil service employees, retired military personnel, and some retired railroad workers. The promised benefits are backed by secure funding (largely U.S. Treasury securities) and the taxing power of the U.S. government. These are considered the safest DB plans in the U.S.

2. State and Local Government Plans

These plans cover government employees, teachers, police, firefighters, and sanitation workers. The largest trade group of these plans, the National Conference on Public Employee Retirement Systems (NCPERS), includes 500 public funds with more than 7 million retirees and 15 million active workers.

3. Private Single-Employer Plans

Most private plans still offered by companies are in this category, of which about 23,900 are currently insured by the PBGC. Three layers of security support the benefit promises of these plans: their current assets and ongoing investment results; contributions that employers are required to make to keep plans funded; and guarantees provided by the PBGC in case these plans are not able to meet their obligations.

4. Private Multi-Employer Plans

These are negotiated by unions on behalf of workers at multiple companies. Their numbers have been steadily declining. As of 2024, there were approximately 1,335 plans representing 11 million participants, according to the PBGC.

Understanding a DB Plan’s Funding

A DB plan is considered adequately funded if its assets equal or exceed the discounted value of its future liabilities—the benefits it must pay out to retirees. Most assets can be valued accurately, but the valuation of liabilities is far more complex. Performed by a qualified actuary, liability valuation must include an estimate of how many participants will qualify for benefits and for how long those participants may live.

Perhaps the most important variable in a plan’s liabilities is the cost of money or discount rate. Before 2006, DB plans were required to use the yield on 30-year U.S. Treasury bonds. The PPA clarified that both short- and long-term discount rates must be blended based on the maturity of a plan’s participant demographics.

In a normal yield curve, long-term rates are higher than short-term, and the lower the discount rate a plan uses, the more its future liabilities will be worth. So the PPA’s requirement to use short-term rates to discount short-term liabilities could result in an increase in reported liabilities for some plans. That, in turn, could cause these plans to fall short of adequate funding.

How to Tell If a Private Plan Is Underfunded

Under the PPA, significantly underfunded private DB plans must meet special requirements for accelerated funding and disclosing shortfalls to the PBGC.

If a DB plan is significantly underfunded, the question is whether the company (or companies, in the case of a multiemployer plan) is financially strong enough to make the extra contributions required by the PPA to bring it up to 100%. If it isn’t, the plan may ultimately have to rely on the PBGC as a guarantor of benefits.

Note that if the PBGC has to take over a failing pension plan, participants may get less money than they would have if the plan had continued. That’s because there’s a limit on the maximum benefit the PBGC will pay out. For example, in 2025, a 65-year-old in a single-employer plan who is taking their pension as a straight life annuity could receive a maximum of $7,431.82 per month.

An easy way to check on a private DB plan’s financial health is to read the annual funding notice that the PPA requires companies to provide each year to anyone covered by their plan.

Key indicators to look for include:

• Its current funding ratio (plan assets divided by the benefits it must pay)—the higher, the better
• The sponsor’s plans for making up any shortfall in this ratio with additional contributions
• The portion of plan assets exposed to stock market volatility

For more information, participants also have the right to request a copy of their plan’s Form 5500, an annual report the plan is required to file with the government.

Important

State and local pensions are not covered by the Pension Benefit Guaranty Corporation. In many cases, they rely on the state’s taxing power to guarantee the benefits they’ve promised workers.

State and Local Pension Plan Guarantees

Unlike private single-employer or multi-employer plans, state- and locally sponsored DB plans are not backed by the PBGC. So if a town or county, for example, goes broke and cannot pay pension benefits, participants must look to state statutes for relief—and may find mostly legalese.

In a few states, the law is clearly favorable for pensioners, spelled out in boilerplate language like this: “Membership in employee retirement systems of the State or its political subdivisions shall constitute a contractual relationship. Accrued benefits of these systems shall not be diminished or impaired.” That means the state must use its taxing power to make good on any pension benefits it has promised.

At the opposite extreme are states that treat pension rights as gratuities, meaning workers have no contractual rights when arguing against the state. Between these two are the states that provide no constitutional or statutory protections but have strong histories of case law protecting public pensions. The NCPERS provides a useful roundup of the constitutional protections in each state.

What Is a Pension?

A pension is a defined-benefit retirement plan that guarantees a set payout based on the number of years you worked and your highest salary.

Defined-benefit pension plans were the cornerstone of employer-provided retirement benefits for many years. Although they are still fairly common in the public sector, such as local governments, they have disappeared from much of the private sector.

What’s Better, a Pension or a 401(k)?

Many people prefer a pension over a 401(k), because the payout is guaranteed.

When Can I Withdraw Money from a Pension?

You typically can’t withdraw funds from a pension until you reach retirement age.

The Bottom Line

The future outlook of many pensions improved, thanks to the American Rescue Plan Act of 2021. However, some pensions are still not in sound financial shape. If you’re concerned about the state of your pension, reach out to human resources at your employer.