A pension plan is a retirement benefit plan that specifies a pension benefit based on the plan’s formula—typically some combination of salary and years of service. In the US, a pension plan must comply with ERISA. ERISA (1) requires plans to provide participants with plan information, including information about plan features and funding; (2) sets minimum standards for participation, vesting, benefit accrual, and funding; (3) provides fiduciary responsibilities for those who manage and control plan assets; (4) requires plans to establish a grievance and appeals process for participants to get benefits from their plans; (5) gives participants the right to sue for benefits and breaches of fiduciary duty; and (6) guarantees payment of certain benefits through a federally chartered corporation if a defined benefit plan is terminated.
In addition, many plans are tax-qualified defined benefit plans. To be tax-qualified, the employer must pre-fund benefits in a segregated and restricted trust so that the plan meets minimum funding requirements. The pool of funds is typically invested in a variety of assets at the discretion of the plan’s trustees who have a fiduciary obligation to the beneficiaries—the employees or eventual retirees—to steward the fund in order to provide sufficient assets to fund the benefits upon retirement.
In addition to an employer's contributions, some pension plans may allow a worker to contribute part of their current income from wages into the pension fund to provide enhanced benefits, or merely to share the cost of funding the defined plan benefits.
The basic cost recognition premise in ASC 715 is that the cost of benefits provided by these plans should be recognized systematically over the active service period of the employee. A distinguishing characteristic of defined benefit pension plan accounting is that the “cost of benefits” includes not only the actuarial present value of the future benefit payments but also the interest on the obligation reduced by the return on the invested plan assets. Put simply, the entire plan constitutes the unit of account, which also impacts the income statement (components of pension cost) and balance sheet (plan assets and obligations) presentation. Another key feature of defined benefit pension plan accounting is the concept of delayed recognition of certain changes in estimates, namely differences in actuarial experience or investment returns. Thus, another component of pension cost is the subsequent amortization of these initially deferred gains and losses. The components of pension costs and assets and obligations are illustrated in Figure PEB 1-1, and are described in PEB 2, PEB 3, and PEB 4.