Cash Balance Plans Basics

October 21, 2022 | Josh Zorger, CFP®, Fortitude Private Wealth

A Cash Balance Plan may be one of the most appropriate Qualified Retirement Plan strategies available for a small business owner to save more income on a pre-tax basis, while also potentially reducing their income taxes.

A Cash Balance Plan is a Defined Benefit Plan that offers tax deferral and creditor protection under ERISA. Because of Legislative changes in 2006, 2010 and again in 2014, these plans have seen remarkable growth in the last decade¹. A popular Defined Benefit Plan in the past with large companies was commonly referred to as a Pension Plan. Similar to a Pension Plan, a Cash Balance Plan allows a business to make direct contributions to an account earmarked for a specific employee or participant. But, unlike a traditional Pension Plan, the Cash Balance Plan may allow the participant to have greater control over investment selection and annual contribution amounts. This is especially true when the participants of the Cash Balance Plan own the business.

The maximum employee contribution allowed for a Defined Contribution Plan for 2023 is $66,000 ². A common type of Defined Contribution Plan is a 401(k) Plan or a 401(k) Plan that offers Profit Sharing. If a business owner wants to achieve a higher level of savings above this $66,000 amount, they may want to consider implementing a Cash Balance Plan.

A Cash Balance Plan may be added in addition to a 401(k) Plan or a 401(k) Plan with Profit Sharing. The total contributions allowed to a Cash Balance Plan are calculated using a formula that is dependent on the age of the participant, the amount of income the participant receives and a projected growth rate. This formula will be defined in the plan document for the Cash Balance Plan. The maximum lump-sum amount that can be saved into a Cash Balance Plan for each participant is $3.4 million, as of 2023.

If you are a small business owner and want to contribute over $50,000 per year to a retirement account, then a Cash Balance Plan might be a good option to consider. Fortitude Private Wealth has clients who contribute to a Cash Balance Plan. This contribution helps these clients to maximize their total retirement plan contributions and lower their overall tax burden.

This information should be used for educational purposes only and is not intended to be specific investment planning, retirement planning or tax planning advice. We recommend that you consult with a professional tax advisor or qualified plan consultant before implementing any of the options presented. Specific tax savings will be different depending on everyone’s specific tax situation. There is no guarantee that adding a Cash Balance Plan will help an individual’s tax situation or lower their tax liability.

¹ 2016 Kravitz National Cash Balance Research Report

² Per IRS Section 415(c)(1)(A) the total contribution limit for both employee and employer contributions to 401(k) Defined Contribution Plans increased to $66,000 in 2023. For plan participants age 50 or older who can make catch-up contributions, the maximum contribution is $73,500 for 2023.

Josh Zorger, CFP®, is the founder and president of Fortitude Private Wealth in Carmel, IN.

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