Cash Balance Plans
A Cash Balance Plan is a type of defined benefit plan (or traditional pension plan) that has some elements that more closely resemble a defined contribution or 401(k) style plan. However, participation in typical cash balance plans generally does not depend on the workers contributing part of their compensation to the plan.
With a Cash Balance Plan, each year the employer credits a set contribution and set interest amount (determined by the plan document) to each participant account.
Participants do not have investment control over their accounts. Instead, the employer guarantees the interest credit. Changes in the investment portfolio do not affect the final benefits to be received by the participant upon retirement or termination. The company solely bears all ownership of profits and losses in the portfolio. The "interest credit" may be a fixed rate, such as 5%, or a variable rate, such as the 30-year Treasury rate. If the actual investments perform better than the guaranteed gain, the employer benefits. If they are worse, the employer must absorb the loss.
There are several advantages to sponsoring a Cash Balance Plan including higher deduction and contribution limits than defined contribution type plans, flexibility in designs and contribution ranges due to allowable funding ranges, potentially significant tax savings and higher creditor protection than other taxable accounts. For example, the 2015 limit to overall individual contributions to a defined contribution plan (like a profit sharing plan or 401k plan) is $53,000 for participants under age 50 and $59,000 for those age 50 or older. In contrast, the maximum contribution to a cash balance plan exceeds these defined contribution thresholds starting when an owner reaches mid-30 and works up to an annual maximum of around $242,000 for someone in their early 60’s. These higher contributions provide a corresponding reduction to taxable income resulting in significant tax savings.
While Cash Balance Plans have mostly been marketed to professional service firms, there are several other good candidates for adopting a Cash Balance Plan, including:
- Highly Profitable Companies of all types and sizes with a steady stream of earnings/profits
- Older business owners (typically 45 and over) who are looking to squeeze 20 years of retirement savings into 10
- Companies with 30-50% of the non-Highly Compensated staff being 10-15 years younger than the business owner
The benefits in most cash balance plans, as in most traditional defined benefit plans, are protected, within certain limitations, by federal insurance provided through the Pension Benefit Guaranty Corporation.
Please contact us if you would like to discuss the possibility of setting up a cash balance plan for your business.