In a cash balance plan, the rules do not limit the annual contribution amount but instead limit the ultimate benefit payable from the plan. The current maximum benefit is a life annuity of $245,000 per year payable beginning at age 62, subject to adjustments based on age and years of service and participation. The lump sum equivalent of that benefit at retirement age is over $3.3 million. So you can see, cash balance plans offer the potential to generate enormous retirement savings that can be several times that of 401(k) profit sharing plans alone.
What is a Cash Balance/401(k) Combo Plan
The ideal candidate for a combo cash balance/401(k) plan is a highly compensated business owner that is seeking larger contributions and greater tax deductions. The business should anticipate consistent profits and strong cash flow for a number of years for a couple of reasons. First, because retirement plans are supposed to be permanent. Although there is not an objective standard of permanency, three-five five years appears to be sufficient time to satisfy the permanency requirement. Secondly, cash balance plan contributions are not discretionary but are determined by an actuary and are an annual obligation to the plan.
In addition, when combining plans, the employer’s contribution to the 401(k) plan is no longer totally discretionary. There will normally be a minimum employer contribution amount required to the 401(k) plan to cover top heavy, minimum gateway, and non-discrimination testing requirements.
How Does the Cash Balance/401(k) Combo Plan Work?
For 2024, the maximum annual employee deferral contribution to a 401(k) plan is $23,000, or $30,500 if age fifty or over, with a maximum annual total plan contribution, including an employer contribution, of $69,000, or $76,500 if age fifty or over.
For those business owners who are seeking to make annual plan contributions in excess of the stated 401(k) limitations, sponsoring a cash balance plan in addition to a 401(k) plan is an amazing option. For example, for a fifty-year old business owner with annual compensation of $345,000 or more, combining a cash balance plan with a 401(k) plan increases the potential maximum annual tax deductible plan contribution from $76,500 up to $215,000.
Below are two examples that can illustrate the power of a cash balance plan combined with a 401(k) plan.
Example 1. ABC, Inc has two owners and four employees:
- Owner A is 60 years old and earns $345,000
- Owner B is 45 and also earns $345,000
- Employee 1 is 40 and earns $75000
- Employee 2 is 35 and earns $50,000
- Employee 3 is 30 and earns $40,000
- Employee 4 is 25 and earns $30,000
ABC’s owners want to make high annual contributions and after speaking with a third-party administrator (TPA) company, they decided to establish a cash balance/401(k) combo plan.
Below is an estimation on how much the owners of ABC company will be able to defer in 2024:
| Age | Compensation | 401(k) Deferral | Safe Harbor – 3% | Employer contributions | Cash Balance Credit | Total | |
| Owner A | 60 | $345,000 | $30,500 | $10,350 | $35,650 | $266,845 | $343,345 |
| Owner B | 45 | $345,000 | $23,000 | $10,350 | $35,650 | $126,495 | $195,495 |
| Employee 1 | 40 | $75,000 | $0 | $2,250 | $3,195 | $700 | $6,145 |
| Employee 2 | 35 | $50,000 | $0 | $1,500 | $2,130 | $700 | $3,330 |
| Employee 3 | 30 | $40,000 | $0 | $1,200 | $1,704 | $700 | $3,604 |
| Employee 4 | 25 | $30,000 | $0 | $900 | $1,278 | $700 | $2,878 |
| Total | $885,000 | $53,500 | $26,550 | $79,607 | $396,140 | $555,797 |
In this example, owner A & B will be able to max out their 401(k) plan make high annual cash balance contributions, creating significant tax deductions while incurring minimal cash expenses for cash contributions made to their four employees.
Example 2: XYZ Service, Inc has two owners and no employees: a doctor and his spouse.
Doctor is 62 years old and earns $345,000
Spouse is 55 years old and earns $345,000
The doctor and his spouse have consistent large amounts of annual income and are looking at ways of generating annual tax deductions while also saving for retirement.
Below is an approximation on how much the owners of XYZ Service company will be able to defer in 2024:
| Age | Compensation | 401(k) Deferral | Employer – 6% | Cash Balance Credit | Total | |
| Doctor | 62 | $345,000 | $30,500 | $20,700 | $294,896 | $346,096 |
| Spouse | 55 | $345,000 | $30,500 | $20,700 | $207,985 | $259,185 |
| Total | $690,000 | $61,000 | $41,400 | $502,881 | $605,281 |
In this example, the doctor and his spouse will each be able to make $51,200 of 401(k) plan contributions and over $200,000 of cash balance plan contributions for the year. In each plan, the actuary will determine the minimum and maximum defined benefit contribution and deduction allowed under the plan.
In both cases, establishing a defined benefit plan helped the business owner generate almost five times more deductions and savings than a 401(k) plan!
