Occupational pension schemes


What are the main types of private pensions and retirement plans that are provided to a broad base of employees?

The most common form of plan is a defined contribution plan called a ‘401(k) plan’. These allow participants to defer a portion of their pay, generally on a before-tax basis, up to an annual limit (in 2019 the limit is US$19,000 for all, with those aged 50 and over permitted to defer up to an additional US$6,000).

Often, an employer will choose to make a ‘matching’ contribution on the participant’s behalf, with the amount dependent upon the level of the participant’s pay deferral. The most common matching contribution is a contribution of 3 per cent of pay, provided the participant defers 6 per cent of pay.

An employer may also make a ‘profit-sharing contribution’ (not necessarily related in any way to the employer’s profit levels) to all those eligible to participate in the plan, commonly allocated to eligible participants as a percentage (eg, 2 or 3 per cent) of a participant’s annual compensation. It is permissible for employers to make matching contributions or profit-sharing contributions on a discretionary basis, where the employer makes a determination annually as to whether to make such a contribution and, if a contribution is to be made, the amount of the contribution.

Generally, employees are permitted to direct the investment of their accounts in a 401(k) plan, choosing from among a set of investments established by the employer.

Defined benefit plans are no longer common in the US owing to high costs and unpredictable funding levels. Funding levels have improved a bit in recent years with the improvement in stock market performance, and defined benefit plans are still offered by some large employers, as well as many cities and states that are obligated to provide these plans to certain unionised employees under the terms of collective bargaining agreements. Many defined benefit plans have been terminated or frozen and new plans often have not taken their place. Many employers may replace a defined benefit plan with a modest increase in the level of contributions under a defined contribution plan.

In other cases, defined benefit plans have been converted into cash balance plans, which are technically a type of defined benefit plan, but with a benefit that mimics a defined contribution plan. Such a plan provides for annual contributions at a specified percentage of compensation, and for growth at a defined interest rate established by the plan sponsor.


What restrictions or prohibitions limit an employer’s ability to exclude certain employees from participation in broad-based retirement plans?

Qualified plans must pass ‘non-discrimination tests’, which seek to assure that a broad cross-section of the workforce is offered the opportunity to participate in the plan. There are also rules that do not permit highly paid employees (generally those earning more than US$125,000) to defer a much greater amount than lower-paid employees into 401(k) plans. Similarly, matching and other employer contributions are required to be made in a manner that does not discriminate in favour of highly compensated employees beyond certain permitted levels.

Can plans require employees to work for a specified period to participate in the plan or become vested in benefits they have accrued?

Plans are permitted generally to require employees to work for one year and accrue 1,000 hours of service credit prior to allowing participation. Plans may impose vesting schedules in which a certain period of service must be reached prior to which plan benefits (other than those contributed by an employee) will be forfeited if the employee terminates employment. A ‘cliff’ vesting schedule of up to three years or a ‘graded’ schedule of up to six years can be imposed.

Overseas employees

What are the considerations regarding employees working permanently and temporarily overseas? Are they eligible to join or remain in a plan regulated in your jurisdiction?

An employee who is seconded to a non-US employer generally can remain in a US benefit plan. It is not unusual for US expatriates to remain on US benefits where the assignment is temporary. The determination of whether to be covered under the US plans may follow whether the employee will be subject to non-US social security during the assignment and whether there is a totalisation agreement in place between the US and the country of assignment. A rule of thumb used, which follows totalisation rules, is that an assignment of greater than five years will result in the employee being ‘localised’ and consequently receiving local benefits. If an employee works directly for a non-US affiliate, he or she cannot participate in a US plan unless that affiliate becomes a ‘participating employer’ in the plan, which is rare.


Do employer and employees share in the financing of the benefits and are the benefits funded in a trust or other secure vehicle?

Most employers share the burden of financing benefits with the employees. 401(k) plans, which are the most popular type of retirement plan, provide a mechanism for employees to divert a portion of their pay into the plan and the most common type of employer contribution, a matching contribution, will only be made if the employee has contributed his or her own pay. There may also be employer profit-sharing contributions, as described above, which do not require any employee contribution.

Defined benefit plans generally provide for benefits funded solely by the employer, but these plans are rare and becoming rarer. All broad-based retirement plans are required to be funded using a trust.

What rules apply to the level at which benefits are funded and what is the process for an employer to determine how much to fund a defined benefit pension plan annually?

There are complex rules in the US relating to funding levels that must be maintained with respect to defined benefit plans. Actuaries use assumptions that take into account expected rates of return on plan assets, employee demographics, interest rates, turnover and life expectancy to determine appropriate funding levels.

Level of benefits

What are customary levels of benefits provided to employees participating in private plans?

Under defined contribution plans, employer benefits are generally matching contributions, which match at a particular level of employee pay deferrals (eg, 100 per cent of an employee’s contribution up to 3 per cent of pay deferred or 50 per cent of an employee’s contribution of 5 per cent of pay deferred) or profit-sharing contributions. Matching generally provides for maximum contributions of between 3 and 6 per cent of pay deferred. Profit-sharing contributions are often set at between 2 and 4 per cent of compensation. ‘Profit-sharing’ is often a misnomer, as these contributions, generally, are not tied to levels of profitability.

Defined benefit plans generally provide for accruals of between 1 and 2 per cent of final average pay per year of service with the employer.

Cash balance plans often provide benefits of about 5 per cent of compensation per year.

Pension escalation

Are there statutory provisions for the increase of pensions in payment and the revaluation of deferred pensions?


Death benefits

What pre-retirement death benefits are customarily provided to employees’ beneficiaries and are there any mandatory rules with respect to death benefits?

The pre-retirement death benefits available under a retirement plan depend on the type of plan involved. Defined benefit plans and certain defined contribution plans (those subject to the Code’s funding standards, such as money purchase pension plans and target benefit plans) are required by law to provide a pre-retirement survivor annuity to spouses of participants. Many of these types of plans will also pay some form of death benefit to designated beneficiaries of unmarried participants. Many plans also offer more generous survivor benefits than those required by law.

Other defined contribution plans (including 401(k) plans) are also subject to the pre-retirement survivor annuity rules unless the participant’s vested account balance is payable in full to the participant’s surviving spouse or to the participant’s designated beneficiary (if the spouse consents or if there is no spouse). Most defined contribution plans not subject to the Code’s funding standards are designed to avoid being subject to the survivor annuity rules, meaning that beneficiaries receive 100 per cent of the participant’s vested account balance upon the participant’s death.

These plans also typically provide that a participant’s account balance will become fully vested upon death, so the beneficiaries ordinarily do not lose any benefits.


When can employees retire and receive their full plan benefits? How does early retirement affect benefit calculations?

It depends on the type of plan involved and the specific terms of the plan. Retirement plans can provide for a ‘normal retirement age’, at which time participants are fully vested and permitted to retire and receive their full plan benefits. Some plans, primarily defined benefit plans, also provide for an early retirement age at which participants can begin receiving benefits.

Early retirement benefits in a defined benefit plan are often subject to a reduction determined by a formula set forth in the plan in order to account for the likely increased payment period. Early retirement benefits must be at least actuarially equivalent to the participant’s accrued benefit at normal retirement age, but many defined benefit plans provide more generous early retirement benefits. For example, a plan may provide that participants electing to retire early will have their benefits reduced to 3 per cent per year for each year prior to the normal retirement age their benefits begin, even though the actuarial reduction would be larger.

Under defined contribution plans, a participant is generally eligible to receive a distribution of the account balance, to the extent vested, upon termination of employment regardless of whether he or she has attained normal retirement age. If a participant terminates employment before becoming fully vested in the plan, a portion of his or her benefit will be forfeited.

Early distribution and loans

Are plans permitted to allow distributions or loans of all or some of the plan benefits to members that are still employed?

Defined contribution plans are permitted to allow loans.

The permissible in-service distribution options depend on the type of plan involved and the plan design selected by the plan sponsor. For example, 401(k) plans can only allow distributions to active employees on account of hardship, when the participant reaches 59.5 years of age, for qualified reservist distributions, or when the plan is terminated. Profit-sharing plans, however, can permit distributions after employer contributions have been in the plan for at least two years, or after the employee has participated in the plan for at least five years.

Plans are not required to permit any in-service distributions, but most typically do.

Additionally, recent changes in the Code allow pension plans to permit in-service distributions when a participant reaches 62. Similar to defined contribution plans, permitting in-service distributions is optional. Defined benefit plans may not offer hardship withdrawals, and typically do not allow participant loans.

Change of employer or pension scheme

Is the sufficiency of retirement benefits affected greatly if employees change employer while they are accruing benefits?

The effect of changing employers on retirement benefits depends primarily on whether the individual becomes fully vested before changing employers and the type of plan that the employee is participating in.

If the employee becomes fully vested before changing employers, under a defined contribution plan, the employee will not lose any of the employee’s retirement benefit earned with the previous employer.

If the employee is not fully vested at the time the employee changes employers, the employee could have some or all of the employee’s retirement benefit attributable to employer contributions forfeited.

Under a defined benefit plan, because the benefit accrual formula is often dependent upon the employee’s years of service and final average pay, a change in a participant’s employment can affect benefit accruals adversely, as the pay component will be measured at the time of termination and future pay increases will not increase the benefit under the former employer’s plan.

Sufficiency of retirement benefits could also be affected if the plan of the employee’s new employer does not allow immediate participation. Retirement plans are permitted to require one year of service (or two years, if the employee is fully vested upon entering the plan) before allowing an employee to participate. The employee could contribute to the employee’s individual retirement arrangement or individual retirement account (IRA) even if not eligible for the new employer’s retirement plan, but the retirement plan will often provide an opportunity to accumulate a greater retirement benefit than the employee could build through contributions to an IRA.

In what circumstances may members transfer their benefits to another pension scheme?

Employees can transfer their benefits to another pension plan if they receive an ‘eligible rollover distribution’ and the proposed recipient plan accepts ‘rollovers’. An eligible rollover distribution is any distribution from a qualified retirement plan except the following:

  • a distribution that is one of a series of substantially equal periodic payments for either the life of the employee or a specified period of at least 10 years;
  • a required minimum distribution; or
  • a hardship distribution.

Most employer-sponsored retirement plans will also accept rollovers, but such plans are not required to accept them. In addition to being able to transfer an eligible rollover to another pension plan, employees are also able to deposit eligible rollover distributions into an IRA.

Investment management

Who is responsible for the investment of plan funds and the sufficiency of investment returns?

It depends on the type and design of the plan. In defined benefit plans, a fiduciary of the plan generally takes responsibility for the investment of plan assets. The fiduciary may be a trustee, administrative committee, or other fiduciary named in the plan or trust document (see question 38). The fiduciary responsible for investment may also delegate this duty to a designated investment manager. If the assets of a defined benefit plan are not sufficient to pay all benefits called for under the plan, the employer will need to make up the deficiency.

In defined contribution plans, participants are generally responsible for selecting the particular investments for their accounts. A plan fiduciary will designate investment alternatives from which the participants may choose. Although participants have the right to select investments, the plan’s fiduciaries will have responsibility if it is shown that the fiduciary failed to make appropriate investments available to the participants consistent with the fiduciary duties required under ERISA of such plan fiduciaries.

In some defined contribution plans, a plan fiduciary will be responsible for investment of plan assets, but such arrangements have become very rare in the current retirement plan environment.

Reduction in force

Can plan benefits be enhanced for certain groups of employees in connection with a voluntary or involuntary reduction in workforce programme?

Yes, subject to some limitations. The Code prohibits qualified retirement plans from providing benefits that discriminate in favour of highly compensated employees (meaning employees earning compensation over a certain limit, which is US$125,000 for 2019 and is adjusted annually). If the enhanced retirement benefits are given only to highly compensated employees, or highly compensated employees are treated more favourably, then the qualified status of the plan would be jeopardised.

Executive-only plans

Are non-broad-based (eg, executive-only) plans permitted and what types of benefits do they typically provide?

These types of plans are permitted. They often provide benefits similar to those offered under qualified retirement plans, such as defined contribution-type individual accounts or defined benefit-type retirement benefits, and are sometimes expressly designed as a supplement to a qualified plan. Additionally, while not technically treated as retirement plans, executives often participate in plans that provide various forms of equity-based compensation, such as stock options, restricted stock, stock appreciation rights and phantom stock rights, which arrangements are not subject to the non-discrimination rules applicable to qualified plans.

How do the legal requirements for non-broad-based plans differ from the requirements that apply to broad-based plans?

Non-broad-based plans are not subject to the Code’s qualification requirements that apply to broad-based plans, including non-discrimination, minimum coverage, section 415 annual addition and benefit accrual limitations, and trust requirements. Plans that provide for taxable benefits to be paid on a deferred basis that are not broad-based qualified plans, however, are subject to section 409A and other tax provisions, which limit how and when benefits may be provided, and prohibit such arrangements from being ‘funded’ (meaning that funds to pay such benefits must not be placed outside the reach of the employer’s creditors).

If a non-broad-based plan offers retirement-type benefits, the plan will also be subject to ERISA, but will generally be exempt from ERISA’s reporting and disclosure requirements and will not be subject to ERISA’s funding, vesting and fiduciary rules.

Unionised employees

How do retirement benefits provided to employees in a trade union differ from those provided to non-unionised employees?

This depends primarily on the benefits for which the union has bargained and to which the employer has agreed. Some unions bargain for inclusion in the employer’s retirement plans on the same basis as non-union employees. Other unions bargain for participation in a multi-employer pension plan. The industry in which the union employees work and the benefits currently offered by the employer will affect what benefits the union will seek.

How do the legal requirements for trade-union-sponsored arrangements differ from the requirements that apply to other broad-based arrangements?

Collectively bargained plans automatically pass minimum coverage and non-discrimination testing, with the exception of special non-discrimination testing for 401(k)-type plans. For other requirements, a single-employer collectively bargained plan would generally be subject to the same rules as a non-collectively bargained plan. If a plan contains both collectively bargained and non-collectively bargained employees, the portion of the plan benefiting collectively bargained employees can be treated as separate from the other portion of the plan for purposes of minimum coverage and non-discrimination testing.

An employer contributing to a multi-employer pension plan, which is by definition a collectively bargained plan, is typically not responsible for administering the plan. In addition to required contributions, a multi-employer plan that is an underfunded defined benefit plan will impose withdrawal liability upon an employer who ceases to make contributions.