Supercharge Your Retirement with a Cash Balance Plan
Many business owners look for opportunities to maximize their time, their productivity and their sales. Often times they find themselves entrenched in running and managing their business, with little time devoted to planning for a successful retirement. Until recently, cash balance plans have been relatively unheard of, but their high contribution limits and powerful tax savings features have attracted a lot of attention. As a result, over the last several years, cash balance plans have become a popular solution to help business owners maximize their retirement savings
What Is A Cash Balance Plan?
A cash balance plan is a type of defined benefit plan. It is frequently referred to as a hybrid plan since it combines certain features of a defined benefit (pension) plan and a defined contribution (401k) plan. Cash balance plans became popular during the 1990’s because they were easier to understand and manage than traditional defined benefit plans. However, these plans faced considerable controversy until the Pension Protection Act of 2006 and subsequent regulations issued by the IRS in 2014, which helped make these plans much more attractive.
How Do They Work?
Cash balance plans incorporate many of the features of defined contribution plans and are subject to the same IRS requirements as defined benefit plans, but with higher contribution limits. Cash balance plan assets are protected from creditors and grow tax deferred.
These plans offer substantial flexibility for determining who is covered by the plan and what level of benefits are offered. Often, traditional plans determine retirement benefits using an average of earnings during the last few years of employment, while cash balance plans do not give as much weight to the last few years, they look at the entire earnings history. The plan specifies a contribution to be credited each year and the interest to be credited based on those contributions. Contributions to the plan can be either a percentage of compensation or a flat dollar amount, subject to the IRS maximum contribution limits. Interest credited to the plan reflects actual investment performance of underlying plan assets but are subject to IRS limitations.
Like a traditional defined benefit plan, a cash balance plan provides a future benefit amount at retirement. Similar to a defined contribution plan, but unlike traditional pension plans, the promised future benefit is shown as a separate account balance which can then become a monthly pension benefit or a lump sum payout at retirement. Typically, lump sum distributions are available upon termination, death, retirement or attainment of age 62 even if still actively employed.
Who Should Consider A Cash Balance Plan?
Cash balance plans are ideal for business owners that desire to contribute beyond the limits applicable to traditional defined contribution plans. A cash balance plan can replace an existing defined benefit plan or be added to an existing defined contribution plan. These plans may be particularly useful for business owners who want to accumulate a significant amount of retirement savings in a short period of time.
For example, if the business owner needs to accumulate over $61,000 per year (the 2018 annual limit for defined contribution plans for individuals over age 50) has a steady cash flow, and is already providing a 401k benefit; a cash balance plan may be the solution. Depending on the situation, the owner may be able to contribute up to $254,000 per year. This gives the business owner the potential to maximize contributions to both plans.
A cash balance plan can be a powerful tool on its own, or it can be leveraged with an existing defined contribution plan. Business owners that wish to save more annually for their retirement can significantly accelerate their retirement savings. Ultimately, helping them maximize something that matters most of all, their confidence.
Trevor Kern, Advisory Services offered by Zeller Kern Wealth Advisors, a Sacramento Wealth Management firms and a Registered Investment Adviser.