What Is Current Service Benefit?
A current service benefit represents the amount of pension benefit accrued by an employee who actively worked during a given time period. The current service benefit, when added to the prior or earned service benefit, represents the total value of an individual’s pension at any given time.
- A current service benefit represents the amount of pension benefit accrued by an employee who actively worked during a specific period.
- Companies make actuarial assumptions to forecast an employee's life expectancy to help determine an employee’s benefits.
- The current service benefit, when added to the prior or earned service benefit, represents the total value of an individual’s pension.
Understanding Current Service Benefit
A current service benefit accounts for the pension benefit earned by an individual under the current pension plan over a given period of time. Pension plans require employers to invest enough funds to make payments to their workers in the future after they have retired.
Under defined-contribution plans, such as a 401(k), employers set aside a specific amount of money per paycheck in a pension fund or retirement plan. The employee’s eventual benefit will depend upon the performance of the fund.
However, with defined-benefit plans, employers must make a series of calculations based upon actuarial assumptions and market movements in order to ensure the amount they invest will eventually cover the amount promised to workers.
To calculate the total value of an employee’s expected retirement benefit at any point in time, an employer formulates an actuarial assumption based, in part, on a combination of the employee’s age, length of service, and earnings over time with the company. The current service benefit encompasses an employee’s service to the company during the time between a set date and the present, such as the current calendar or fiscal year.
Calculating Total Pension Benefit
Employers may adjust the formula used for calculating an employee’s current benefit over time. For example, the employer may increase the percentage of an employee’s earnings it uses to calculate future pension benefits to reward longevity. The current service benefit at any given time reflects only the formula currently in use to calculate benefits. Benefits earned prior to the current period may require calculation via a different formula.
Prior service benefits include pension benefits earned by the employee before the start date of the current period. Adding the accumulated prior service benefits to the current service benefit yields the amount of an employee’s expected pension benefit if they were to retire immediately.
Defined-benefit pension plans require complex accounting. Employers must make current investments sufficient to cover future outflows. Actuarial assumptions provide a forecast of an employee's projected life expectancy, which helps an employer to develop a reasonable formula to determine an employee’s benefits and to decide how much of an investment the company needs to make in a given year to ensure the fund stays solvent.
Many plans also allow employees to choose between annuitized distributions and a lump sum, further complicating predictions for future cash flows into and out of the pension fund.
With a defined-benefit plan, companies must cover any shortfall between amounts owed to retirees and funds available. However, if the company has insufficient funds to cover the pension payments, meaning the pension plan failed or was terminated, the Pension Benefit Guarantee Corporation (PBGC) guarantees the employee's monthly pension up to certain limits set by federal law.
The PBGC is a federal agency that was established by the Employee Retirement Income Security Act of 1974 (ERISA), to provide timely and uninterrupted payment of pension benefits, and help keep pension insurance premiums low. The PBGC guarantees the "basic benefits" that an employee earned before the pension plan’s termination date.
However, the PBGC only guarantees single-employer pension plans or defined benefit plans. The agency does not guarantee defined contribution plans such as 401(k)s. Also, the PBGC does not guarantee a monthly pension amount that is greater than the monthly benefit the plan would have paid out to the employees had they retired at their normal retirement age. The maximum amount that the PBGC guarantees is established each year under the provisions of ERISA.
The maximum guarantee from the PBGC is determined using a formula, which provides lower pension amounts for younger ages since younger people will receive more monthly pension checks over their lifetime. Conversely, employees that are older receive a higher maximum guarantee. The PBGC publishes its maximum guarantee table each year on its website.