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Defined benefit pension plans

How is a defined benefit pension calculated? One of 3 formulas Add to ...

Pension calculations are unique to each defined benefit (DB) plan. There are 3 main formula types, but there can be many variations to them.

3 main formulas

  1. Final average earnings
  2. Career average earnings
  3. Flat benefit

1. Final average earnings

This formula is based on your average earnings in the years leading up to retirement (for example, in the 5 years before retirement).

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Sample formula – 2% x your average salary in the past 5 years x your years as a plan member. Here's what your pension would be if your average salary was $50,000 and you participated in the plan for 30 years:

​Benefit percentage​2%
Average salary$50,000
Years of plan membership30
Formula calculation$50,000 x 2% x 30
​Annual pension$30,000

 

2. Career average earnings

This formula is based on your average earnings during the entire period you were a member of the plan.

Sample formula – 2% x your average salary in your career x your years as a plan member. Here's what your pension would be if your average salary was $30,000 and you participated in the plan for 30 years:

​Benefit percentage​2%
Average salary$30,000
Years of plan membership30
Formula calculation$30,000 x 2% x 30
​Annual pension$18,000

 

3. Flat benefit

With this formula, your monthly pension benefit is equal to a fixed dollar amount for each year you are a member of the plan.

Sample formula – $50 x your years as a plan member. Here's what your pension would be if you participated in the plan for 30 years:

Benefit amount​$50
Years of plan membership30
Formula calculation$50 x 30
​Monthly pension$1,500
($18,000 annually)

 

Tip: Some plans have inflation protection: Some plans increase pension payments to retirees each year to fully or partially match the rate of inflation. This is a highly valuable benefit because it helps your pension’s buying power keep up with rising prices over time.

Content in this section is provided in partnership with Investor Education Fund, a non-profit organization founded and supported by the Ontario Securities Commission that provides unbiased and independent financial tools to help Canadians make better money decisions. To find out more, go to: GetSmarterAboutMoney.ca

Follow us on Twitter: @GlobeInvestor

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