What is Unfunded Pension Plan?

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An unfunded pension plan is an employer-managed retirement plan that uses the employer's current income to fund pension payments as they become necessary. This is in contrast to an advance funded pension plan where an employer sets aside funds systematically and in advance to cover any pension plan expenses such as payments to retirees and their beneficiaries.

Definition

An unfunded pension plan is a retirement plan managed by an employer that uses the employer's current income to fund pension payments. This contrasts with a pre-funded pension plan, where the employer sets aside funds regularly in advance to cover pension expenses for retirees and their beneficiaries.

Origin

The origin of unfunded pension plans can be traced back to early corporate welfare systems, where companies typically paid pensions directly from their operating income. This approach became common in the mid-20th century, especially in government and large corporations.

Categories and Features

Unfunded pension plans are mainly divided into two categories: government unfunded plans and corporate unfunded plans. Government unfunded plans typically rely on tax revenues, while corporate unfunded plans depend on the company's operating income. They are characterized by high flexibility but also face the risk of underfunding, particularly during economic downturns.

Case Studies

A typical example is the U.S. Social Security system, which largely relies on current tax revenues to pay pensions. Another example is some large corporations facing pension payment difficulties during economic recessions because they depend on current income to fund pensions.

Common Issues

A common issue with unfunded pension plans is the risk of underfunding, especially during economic downturns. Additionally, employees may worry that the employer's financial health could affect their pension payments.

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