Cash Balance Retirement Plans

A cash balance plan is a type of defined benefit pension plan. It provides for an annual allocation, as defined in its Plan Document, that is usually a percentage of compensation or specific amount. It also provides an annual interest credit at a fixed interest rate up to 5.5 percent. A cash balance plan is a tax qualified plan like a 401(k) profit sharing plan and requires actuarial certification of plan funding. It is subject to minimum contribution requirements and it must offer annuity form of payment. No specific annual contribution limit is required, but the maximum lump sum benefit is limited. Changes in the IRS tax code over the past 10 years have increased plan deduction limits and increased maximum plan benefits, making the cash balance plan more desirable. Cash balance plans allow for higher total contributions than are possible with a 401(k) profit sharing plan alone, and the cash balance plan can be sponsored in conjunction with a 401(k) profit sharing plan.

It’s important to note that cash balance plans are hypothetical accounts. The plan investments are trustee-directed and invested in a single asset pool. The value of cash balance accounts are usually not exactly equal to the value of plan assets.

The cash balance plan allows flexibility in that there is usually a range from the minimum required deductible to the maximum deductible. You can amend the plan up to two and a half months after year-end to increase benefits. You can also freeze the plan or lower the contribution requirement on a prospective basis.

Pairing a 401(k) profit sharing plan with a cash balance plan can bring flexibility to your plan design and make the plans more cost-effective. The best candidates for a cash balance plan are professional service employers who can contribute at least 7.5 percent of compensation for staff and have the cash flow to support annual contributions of more than $50,000 for themselves.

If you would like to learn more about cash balance plans, please talk to your financial advisor.

This article was originally published in Illuminations: Facts & Figures from people with a brighter way, a Rea & Associates enewsletter, 4/13/2010.

Note: This content is accurate as of the date published above and is subject to change. Please seek professional advice before acting on any matter contained in this article.