The Cash Balance pension plan has grown in popularity since new rules were published in 2005. Almost all new pension plans will be set up as Cash Balance plans instead of the traditional Defined Benefit plan. There is nothing that a traditional plan offers that can not be delivered better under a Cash Balance pension plan.
It’s a Defined Benefit Pension Plan (DB plan) with Defined Contribution Plan (DC plan) characteristics.
A Cash Balance pension plan offers predictable year-to-year funding, uses a consistent formula to determine costs for employees of all ages, and allows owners to receive significantly higher contribution rates than they could in a typical defined contribution plan. It also gives employees a clearer understanding of the benefits they’re earning compared to traditional pension plans.
Cash Balance plans provide defined retirement benefits. That benefit is defined by a formula that is spelled out in the plan document.
Contributions must be made every year, and annual actuarial calculations and certifications are required. The plan’s trustees manage all plan assets, and distributions are calculated using standard pension methods, with annuity benefits offered as an option alongside lump sum payments. These plans are also covered by the Pension Benefit Guaranty Corporation, and the benefit amount is not influenced by the investment return of the trust.
Contributions made can be tracked directly to the ultimate benefits paid. A hypothetical account is created for each participant, so it’s easier for them to understand the plan. (This is not to be confused with an individual account).
During the plan design phase, the formula required to fund the retirement benefit is determined. Then each year a two-part contribution is made to the plan for each participant:
1. Pay credit – a set percentage of the participant’s annual compensation; and
2. Interest credit – a set amount of interest to be earned within the hypothetical account. This can be a fixed rate of interest, or tied to a market index.
The plan sponsor actually funds the actuarial equivalent of the benefit as determined by the actuary.
Request to talk to one of our Pension Consultants to see if a Cash Balance Pension Plan is right for your company.
Cash Balance plans work beautifully to help business owners accelerate their retirement funding while they are still working. This is a huge advantage to leave room for the next generation to take the reins of the company without the significant cash outlay that the retiring owner may otherwise require without the plan.
Many companies have multiple owners. Under a Cash Balance plan, each owner can dial in the contribution he or she wants to have designed into the plan. From a total compensation perspective each owner is the same after the plan as before – it’s just a matter of how that compensation is split between take home pay and retirement contributions. There will be some required contributions to the staff that may end up being shared among all owners. A customized illustration can shed light on how this might look for a particular company.
No. Cash Balance plans are not age-discriminatory as long as the Pay Credits and Interest Credits are the same for all workers. Contributions are based on a career average benefit patters, so it avoids the heavy weighting of benefits in the final years of work.
Yes. A Safe Harbor 401(k) profit sharing plan that is paired with a Cash Balance plan provides for the most flexible and powerful plan design in most cases. The top-heavy minimum contribution requirement is typically provided in the Profit Sharing plan.
Yes. The Accrued Benefit under the plan is determined as of the date of the conversion, and compared to what the Accrued Benefit would have been under the cash balance formula.
Adopting a Cash Balance plan comes with several important commitments. Contributions are fixed and mandatory, so the plan cannot be treated like a high-deduction profit sharing arrangement. All shareholders or partners need to be on board and should expect to participate, even if not everyone contributes at the same level each year. Once a contribution is earned for the year, it must be funded even if the participant has terminated employment. Participant accounts must become fully vested after three years of service, and each plan must be individually designed and submitted to the IRS for approval. Sponsors should also be prepared to maintain the plan for at least five years. In addition, companies with audited financials must provide extra balance sheet disclosures that require special actuarial calculations.
The plan document must be designed, drafted, and signed no later than the last day of the plan year. Request to have a pension consultant from Benefit Resources contact you about taking the first step toward looking at your options. We will return to you a customized illustration with a full services and cost proposal.
