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August, 1988, Vol. 111, No. 8

How has vesting changed since passage of
Employee Retirement Income Security Act?

Avy D. Graham

Provisions of employer-financed retirement plans have been changed to reflect the statutory requirements of the Employee Retirement Income Security Act (ERISA), enacted in 1974, and several other laws passed since that time. These plans will experience further revisions as terms of the Tax Reform Act of 1986 become effective. The laws largely affect a retirement plan's vesting schedule—the rate at which a participant's future retirement benefits become guaranteed. Vesting provisions are very important in an economy with a mobile labor force; once specific requirements are met, these provisions essentially guarantee a worker the right to future benefits. These provisions allow a worker to terminate service before he or she is eligible for retirement without losing accrued benefits. In addition, vesting provisions can guarantee benefits to the spouse of an employee who dies before retiring. However, vesting increases the likelihood of eventual pension payments, thereby raising the cost to employers of providing employee benefits.

This article discusses the vesting provisions of two types of plans—defined benefit pension plans and defined contribution plans. A defined benefit pension plan contains a formula for determining retiree benefit is (for example, the formula may designate a dollar amount or a percentage of annual salary times years of service). A defined contribution plan specifies the employer's contribution to a retirement or savings fund (for example, a percentage of annual salary), but not the eventual benefit amount. Instead, benefits depend on amounts contributed to the fund plus the fund's investment earnings. The two major forms of defined contribution plans discussed in this article are savings and thrift plans (in which employees typically contribute a portion of their earnings to a fund, which is matched in whole or in part by the employer) and deferred profit-sharing plans (in which employees typically contribute a portion of profits to a fund, regardless of the level of employee contribution). Defined contribution plans often have more liberal vesting schedules, compared with defined benefit plans.

Changes in vesting provisions in defined benefit pension plans are traced in this article using results from two Bureau of Labor Statistics surveys, one conducted in 1974 before enactment of ERISA, and the other in early 1986, just before passage of the Tax Reform Act. Essentially, ERISA made vesting a universal feature of the plans studied here. For many plans which already had vesting provisions, ERISA called for revising the timing schedules to guarantee benefits after fewer years of service with the employer. The Tax Reform Act will likewise have a large impact on pension plans; most of the plans studied in the 1986 Employee Benefits Survey will have to be revised to conform to the vesting standards spelled out in that act.

This excerpt is from an article published in the August 1988 issue of the Monthly Labor Review. The full text of the article is available in Adobe Acrobat's Portable Document Format (PDF). See How to view a PDF file for more information.

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