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Cash Balance, Defined Benefit, Defined Contribution Plans

Compare and contrast cash-balance, defined benefit, and defined contribution plans. Discuss the advantages and disadvantages of each. Explain why organizations are making increased use of them.

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Cash balance pension plans were created as a less traditional plan that combines the best features of both a defined benefit plan and a defined contribution plan. With a cash balance plan each participant has an account that is credited with a dollar amount from the employer, usually determined as a percentage of pay. In addition, each participant's account is also credited with interest. Participants may receive a lump sum distribution or annuity. A cash balance plan is different than a defined contribution plan because it "defines future pension benefits, not employer contributions" (ERBI, n.d.). Each account shows the current lump-sum value of the participant's accrued benefit, so that the account is a bookkeeping device, and does not relate to plan assets (ERBI, n.d.). In addition, employer contributions may be less than the sum of the additions because they are based on actuarial valuations. Also, interest is credited at a rate stated in the plan, and is not correlated to the investment earnings of the employer's pension plus. The benefit of cash balance pension plans is that the annual benefit accrual is expressed as a lump sum amount and added to the participant's account balance.

Defined benefit plans have subsidized early retirement benefits but cash balance plans do not. Like defined benefit plans, the sponsor (often a pension fund manager or ...

Solution Summary

This solution compares and contrasts cash-balance, defined benefit, and defined contribution plans. It discusses the advantages and disadvantages of each and why organizations are using these plans more often. Includes APA formatted references.

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