Pension fund definition

What is a Pension Fund?

A pension fund is a pool of funds that have been contributed by employers and their employees, and which is being invested to provide employees with retirement benefits. Since pension funds typically have enormous amounts available to invest, they are classified as institutional investors, and are managed by professional investment managers. The earnings of a pension fund are usually tax-deferred, and are only recognized as income by plan recipients after they have reached retirement age.

Those individuals responsible for making management decisions for a pension fund have a fiduciary responsibility to make prudent investments. Consequently, investments are typically well diversified and avoid high-risk situations.

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Accounting for Retirement Benefits

The Underfunding of Pension Funds

Pension funds are usually underfunded, since the sponsoring organizations are not able to contribute the full amount indicated by an actuarial analysis of the funds that will be needed to ensure that adequate payouts are made in accordance with the schedule of plan benefits. This situation worsens when the fund’s return on assets declines, since it can no longer fulfill part of its funding obligation from this source.

Presentation of a Pension Fund Liability

When a sponsoring organization has not fully funded its pension fund, the underfunding is recognized as a liability on the balance sheet of the sponsoring organization. An employer that is liable for funding the pensions of a large number of employees may find that this liability represents one of the larger line items on its balance sheet.