Cash Balance Plans

What are they and how do they work?

Cash Balance Plans represent a hybrid Retirement planning technique for business owners and high-income earners. Anytime you find yourself paying more in taxes than you’d like and are intent on deferring pre-tax income, whether a set amount or a percentage of net profits, Cash Balance Plans can act like a 401k on steroids. They have the ability to bolster retirement dollars and aid in crafting a retirement plan you may not be able to otherwise attain.

Plans are not one size fits all and building and supporting a Cash Balance plan is not simple, nor is it for everyone. However, if you own a business with significant profits and want to build an executive retirement package for yourself, and your partners, Cash Balance plans may be a good fit. Below I’m going to touch on some high-level talking points to get your started.

What is a Cash Balance Plan?

A Cash Balance plan is a defined Benefit plan, or retirement vehicle, that gives business owners the ability to shelter a greater amount of income from Uncle Sam. Think about your 401k, or SEP and your ability save pre-tax dollars via those retirement accounts. (if you don’t currently use those vehicles, click here for an outline (small business tax strategies). CB plans act in the same way but at a greater volume. They provide much higher contribution limits which in turn let you shelter a greater amount of your money over a significant period of time.

How do they work?

To start, consider you are a partner at a law firm, or a doctor, maybe you own a holding company with different interests in different sectors, anytime you have significant earnings and have interest in deferring income and reducing your tax exposure, Cash Balance plans can help. Many business owners spend a great deal of time trying to increase above the line deductions for the company- making your tax burden lighter at year end. Outside of standard deductions and traditional retirement plans available, the Solo(k) with a max of $58,000 and the SEP with a max of $58,000, a Cash Balance plan gives you ability to save significantly more depending on the owners age and total comp plan.

How much can I save?

This number varies and depends on several different inputs. The IRS changes the amount each year and plan limits depend on a variation of salary and age. That said, for broad numbers, if you include your 401k and profit sharing- plus- the cash balance plan, at 50 you can save $263,000/year in pre-tax dollars. At 60, if you include your 401k, profit sharing- plus- the cash balance plan, you can save $375,000. Again, each one of these numbers are broad in their calculation and need to be looked at by an actuary and retirement plan specialist. However, what you can see is this planning technique can have a significant impact reducing your tax bill and increasing your retirement dollars over a long period of time.

How do I get started?

At Investment Design we can help guide this process, introduce actuaries and 401k specialist that can get outside of broad numbers and draft a plan specific to your business. We will take a look your income, your individual and company tax situation and retirement timeline and goals. The first thing to do is schedule time to talk, during that call we’ll ask for number of items to paint your financial picture, the most pressing for this conversation is a census report from you HR team. If you are a smaller company and don’t’ have one, that’s fine. We can begin with a conversation to see if this particular plan makes sense.

In closing, retirement planning means different things to different people. I believe Cash Balance plans provide a structure for savings that is underutilized and will become more prevalent as taxes go up and IRS guidelines become more flexible. Which has already started.

Max Morgan, AIF, Partner