How is the annual pension benefit calculated in a defined-benefit pension plan?

The annual pension benefit in a defined-benefit pension plan is calculated as a percentage of average earnings multiplied by the number of years of service. This method is designed to provide a predictable and stable income to retirees by linking the benefit to both their salary history and their duration of employment.

In many defined-benefit plans, the calculation often considers the highest earning years of the employee, but rather than only focusing on a single peak year, the plan typically averages earnings over a specified period (such as the last five years of employment) to achieve a more equitable representation of an employee's overall compensation. The formula generally follows a structure that incorporates both the employee’s average earnings and their total years of service to ensure that longer service periods lead to higher pension benefits, reflecting both loyalty and career length.

This approach aligns the benefit with the employee's contributions and tenure, ensuring a fair and sustainable retirement income aligned with their working life.