A cash balance plan is a type of defined benefit plan. Similar to traditional defined benefit plans, cash balance plans have high contribution limits (possibly $300,000+) but contain features that make them more attractive than traditional defined benefit plans.

A cash balance plan is not a 401(k) plan.  The main difference between a cash balance plan and a 401(k) plan (defined contribution plan) is that a 401(k) plan requires the employees to partially fund the plan, whereas, a cash balance plan requires the employer to fund the plan for the employees.  A cash balance plan guarantees each plan participant a promised benefit, in terms of a stated account balance, whereas a 401(k) plan does not.  In most cases, a cash balance plan will allow the business owner to put away much more money than a 401(k) plan.

Having the ability to save for retirement while at the same time saving taxes and being able to invest in a wide range of investment opportunities are the primary reasons why the U.S. retirement system works so well. Tax deferral literally means that you are putting off paying tax. The most common types of tax-deferred investments include those in IRAs or Qualified Retirement Plans (i.e cash balance plans). Tax-deferral means that all income, gains, and earnings, such as interest, dividends, rental income, royalties or capital gains will accumulate tax free until the investor or IRA owner withdraws the funds and takes possession of them. As long as the funds remain in the retirement account, the funds will grow tax-free. This allows your retirement funds to grow at a much faster pace than if the funds were held personally allowing you to build for your retirement more quickly.  The bottom line is that the best way to generate tax-free wealth is through a retirement account.

If you have a business and are looking to maximize your tax deductions and retirement savings, then you need to look at a Cash Balance Plan.

A 401(k) plan will allow the business owner to contribute up to $23,000 or $30,500 if age 50 or above for 2024. In addition, business owners can also make contributions to all eligible employee participants of at least 3% of employee salary under the safe harbor rules.  However, with a cash balance plan you will be able to put away much more than you can to a 401(k) plan.  The exact amount you can put away as the business owner is dependent on your compensation and age.  Without getting into all the actuarial complexities, you can be assured that in almost all cases the amount you can contribute to a cash balance plan versus a 401(k) plan will be significantly higher, which will surely lead to greater tax deductions and more retirement savings for you and your family.

Because cash balance plan contributions are not discretionary, below are a few key characteristics you and your business should have in order to maximize your cash balance plan benefits:

Steady cash flow and salary. The business owner should have steady profit and receive stable compensation.  In addition, the business owner should also anticipate at least 3-5 years of consistent company cash flow in order to fund future cash balance plan contributions.

Age of Owners: A small business who is between the age of 45-65 could generate significant tax benefits with a cash balance plan.  The reason for this is that the older the business owner is, the more he or she can put away in a cash balance plan since they are closer to the age of retirement.

Age of Employees: The age of the business’s employees can influence whether the cash balance plan will be a good fit for the business owner and the business. For example, a business that has mostly older employees may not want to consider adopting a cash balance plan because of the potential high costs involved in funding the employee required benefits.  Whereas a 401(k) plan or profit-sharing plan would likely prove less costly and still offer its employees important retirement benefits.

If you are lucky enough to have a business that is a good fit for the cash balance plan consider yourself quite fortunate.  By adopting a cash balance plan, you have the opportunity to generate huge income tax deductions as well as supercharge your retirement wealth.

To learn more about the cash balance plan, please contact a pension specialist at (407) 875-3332.