A Cash Balance Plan is a type of Defined Benefit Pension plan. Like a Defined Benefit Plan, a Cash Balance plan is an Employer Sponsored retirement plan funded by the employer to provide employees (including self-employed individuals) a benefit at retirement.

The way a defined benefit plan works is that the Employer promises a retirement benefit to employees when they reach retirement age. The maximum benefit is based on long-standing Annual Benefit limits (currently $265,000/year which are indexed for inflation annually.) For small businesses, the employer and the benefitting employee are often the same person, so your client is creating a promise to themselves to fund their cash balance plan.

A cash balance plan is a TYPE of defined benefit plan.

At CashBalanceInABox we prefer using cash balance plans with most small businesses (and owner-only businesses) looking to make large tax-deductible contributions. The advantages of a cash balance plan over a regular Defined Benefit plan are:

• Retirement Benefits are shown as a current dollar amount instead of as an annuity (e.g., $500,000 hypothetical account balance vs. $5,000/month starting at age 65.)

• Contributions and benefit amounts are more flexible for small businesses with a cash balance plan, especially for the owner(s) of the business.

Your client can make a much higher tax-deductible contribution to a cash balance plan than any other type of retirement plan.

The maximum contribution amount in the first year of a cash balance plan is based on your client’s age, compensation (high 3-year average) and years of service with their company. It is common for to have a $250,000 or $300,000 maximum contribution into a cash balance plan verses a $66,000 maximum contribution into 401(k) plan (or SEP.)

The older (closer to retirement) your client is, the higher the contribution amount will be.

Try our Cash Balance Calculator here to see your client’s maximum contribution.

What type of business is a cash balance plan ideal for?

• Strong, predictable cash flow

• 1 owner per 10 or fewer employees

• Professional services like doc, dentist, lawyer, cpa, engineer, architect, IT

• Ownership older than average employee and higher compensated

The primary downside compared to a 401(k) plan (or SEP) is the Cash Balance plan may have a required contribution. Since the Cash Balance plan benefit is promised by the employer, the plan is required by the IRS to be appropriately funded. Each year, the plan must be evaluated for its funding level and a minimum contribution must be made to the plan. Each year the plan must file this information with the DOL (and/or IRS.)

When a plan is well funded, there may not be a minimum contribution. This makes a cash balance plans funding amounts very flexible and why we recommend fully funding and spending some time estimating contribution comfortability over the first few years of the plan.

Yes, your client can (and we usually recommend) a 401(k) plan in combination with a cash balance plan. A 401(k) plan adds additional contribution amounts that are completely discretionary for your client.

When your client has a SEP, they can put a Cash Balance plan in place. However, they should hold off on funding the SEP for that year until it is reviewed by an expert. An employer can make contributions to both a SEP and cash balance plan in the same year, however there are two things to watch out for:

• Some SEPs do not allow for multiple plans in the same year, so the SEP document needs to be reviewed.

• Owner-only and some other small-business cash balance plans reduce the deducible employer contribution availability in the 401(k) (or SEP) from 25% of compensation to 6% of compensation

Yes, your client can do a Cash Balance Plan and often times will still have very high maximum contributions for the first couple years of the plan. However, in order to continue to make high contributions it will often be beneficial to increase the W-2 compensation in future years.

Alternatively, your client had higher earnings from the S-Corp (or other self-employments earnings) in past years, that prior compensation can be used in future years.

If your client has W-2 employees in their business, they may need to be covered under a Cash Balance Plan (or under the 401(k) plan in a Cash Balance/401(k) Combo.) Employees must be covered if they have completed a Year of Service with the company (worked 12-months and at least 1,000 hours) and are at least 21 years old.

Once they have satisfied the year of service, they must receive an employer contribution. Typically that contribution is between 10% and 15% of their gross pay. This amount depends on their age and compensation compared to the owner(s) of the company. The greater the age difference, the lower the required contributions to the employees.

Most often, a high percentage of the employee’s contribution into the plan goes into a 401(k) plan, there are three reasons we recommend this:

• The required contribution is less expensive to fund in a 401(k) plan than a Cash Balance Plan

• There is less investment risk for the company the more of the employee’s assets are in the 401(k) plan than a cash balance plan

• There is greater investment control for the employee in a 401(k) plan (e.g., they can select their own investment choices.)

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No, your client can determine the amount they wish to fund when starting the plan. This amount has to be written into the cash balance plan.

It is common that your client may want to start a cash balance plan after a particularly good year and not be confident that they can make this contribution each year. In these circumstances we suggest writing the plan document with a high first year contribution (e.g., $200,000 1st year) and then a smaller contribution going forward in year 2 and beyond (e.g., $75,000 year 2 and going forward.) Then, if future years, if we need to increase your client’s benefit, they can always amend the plan.

Typically, in order to justify the increased administration costs of a cash balance plan (compared to a 401(k) plan or SEP,) your client would need look to fund at least $90,000 in the first year.

No, IRS regulations require that a Cash Balance plan (and all qualified plans) be established on a “permanent” basis. What is meant by “permanent” here is that the plan is intended to stay in place for a significant period of time (e.g., 10 years) and that If a plan terminates within a few years after its initial adoption, the plan sponsor must give a valid business reason for the termination.

Common recognized business reasons for Plan Termination are:

• Change in ownership by merger.

• Liquidation or dissolution of employer.

• Change in ownership.

• Adverse business conditions (sponsor must be able to explain)

A cash balance plan also cannot be abandoned, it must go through a termination process. The plan must be amended for termination, a final valuation must be completed (and final contributions must be determined,) assets must be properly distributed from the plan and the plan must file a final Form 5500 with the DOL and/or IRS.

No. In general your client can receive a lump sum of their entire benefit when they retire or the plan terminates. Although all cash balance plans are required to offer an annuity option at retirement, the plan can offer (and we see a very high percentage of participants) receive a lump sum from the plan.

Once your client receives their benefit as a lump sum, it can be rolled into an IRA and there are no tax implications if all of the funds are rolled over.

If the benefit is taken directly (in cash) by your client, then the distribution is a taxable event and income taxes will be due on the benefit.

No, Cash Balance plans are a type of retirement plan (just like a 401(k) plan.) There is no requirement of any particular investment type. At 401kinabox, we are completely agnostic to the investments in a particular plan.

In our experience, most plans are invested in brokerage accounts and invest in mutual funds, ETFs, stocks, bonds, money markets and other typical publicly traded investments.

The plan can also invest in insurance products, although there is no requirement to do so.

Yes, there are some investments that require additional reporting, accounting or annual audits. At 401kinabox, we do not support plans with these investments, however other providers may be able to administer plans that wish to make these investments. The most typical alternate investments are:

• Non-publicly traded securities (E.g., stock in unlisted companies, unlisted bonds and so on.)

• Non-publicly traded real-estate

• The trust engaging in an active business

• Employer securities

Unlike 401(k) plans, cash balance plan limits are based on what comes out of the plan. In a 401(k) plan, it’s the opposite. The limits are based on what goes in each year. The limits for cash balance are based on your client’s age, high 3-year compensation, year of service and years of participation in a plan.

For someone with high compensation, 10 years of participation in the plan and in their early 60s, the maximum lump sum withdrawal from a cash balance plan is around $3,000,000.

This is where the plan’s investments come into play. When the annual contribution amount is determined, it uses an investment return assumption (typically 4% in our plans.) Over time, in the plan’s investments perform over the investment return assumption, it will reduce the contribution availability to the plan. On the other hand, if the investments underperform the investment assumption then your client will have to increase contributions to the plan.

However, the investment make-up to the plan is amortized over 15 years. So, one poor investment year will not impact your client’s contribution amount significantly. This is especially the case in the plan’s first few years.

With the investments having such a direct impact on the contribution amounts over time, it is very common for pension asset managers to limit the variance of the plan’s investments. These strategies are known as LDI or Liability-Driven Investing.

An alternate view is investing for the highest return reasonable for a client’s risk tolerance with the idea that it is ok if contributions are limited in future years.

This is another area where Cash Balance Plans differ from 401(k) plans or SEPs. In a 401(k) or a SEP, contributions are usually discretionary and if they plan does have a committed contribution (like a safe harbor contribution,) the plan can easily be amended to discontinue the contribution.

Contributions work differently in a cash balance plan. Cash Balance plans have a funding level. This compares the promises of the plan (the benefit accruals to the employees of the company) with the actual assets in the plan. Each year a contribution range is determined that provides your client a choice on how much they would like to contribute to the plan.

Three numbers are provided, but any contribution amount can be made as long as it is between the range.

A contribution range will be provided as:

• Minimum Required Contribution – this is the amount (based on government regulations) which must be contributed to the plan.

• Recommended Contribution – this is the amount which makes the plan fully funded (the assets of the plan will match the liabilities of the plan.)

• Maximum Deductible Contribution – this is the maximum deductible contribution (based on government regulations) which the company can make to the plan and deduct as a business expense. Government regulations allow cash balance plans to be overfunded (assets are higher than the plan’s liabilities) as it is seen as preferable to have plenty of assets to pay out employee retirement benefits.

At 401kinabox, we prefer to keep small business cash balance plans with a healthy overfunding amount, especially in the early years of the plan. One benefit is that an overfunded plan will have a lower, or no required contribution which gives your client a lot of flexibility to make their desired contribution.

A Cash Balance plan’s funding deadline is the company’s tax filing date up to a maximum of 8.5 months after the plan year. For a calendar year plan, the deadline is September 15th each year.

Yes, many companies make contributions throughout the year. Whatever is the most convenient to your client.

If your client cannot make a contribution, they should let us know as soon as possible. Future employee benefits can be reduced for a year, if the plan is amended in time (typically a little less than half way through the year.)

An advisor should never ignore the cash balance client/account during the year. Should a client notify you after year end they cannot make a contribution, it’s too late. The minimum contribution will be required.

When a cash balance plan is overfunded (and ready to be paid out) there are few things that can be done:

• Your client’s benefit amount can be increased

• Your client’s employees benefit amount can be increased (this includes family members that work for your client)

• The excess assets can be rolled into a 401(k) or other defined contribution plan and allocated to your client (and their employees) over 7 years.

The last option and the worst option is for the excess assets to be reverted back to the company. When this happens, the assets are taxed (both at a federal and state level) and there is a 50% federal excise tax on the amount.

The deadline is your client’s company’s extended tax filing date. The plan will need to be established before the company files taxes for the year. Also, remember the funding deadline is up to 8.5 months after the year. So, a calendar year plan would need to be established and funded by September 15 of the following year.

Our costs start off at $2,500 plan set-up and $2,500 annual administration for owner-only plans. When the company has other eligible employees, the cost will be increased.

Cash Balance plans have a higher administration cost because the plans are required (by government regulation) to be reviewed and valued by an Enrolled Actuary each year.

Our set-up costs cover:

• Initial contribution consulting with you and your client

• Consulting with your client’s CPA or tax advisor

• Any designs and future projections necessary to establish the plan

• Legal Plan document

• Secure portal set-up for you, your client and their tax advisor

Our Annual Administration costs cover:

• The Plan’s annual valuation

• Review annual census information

• Coverage and nondiscrimination testing

• Contribution projections

• Phone calls with you and your client

• Form 5500 and necessary schedules