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Cash Balance Plans

A cash balance plan allows business owners to save even more money, tax deferred, to help better prepare for retirement and reduce taxable income today.

A cash balance plan allows business owners to save even more money, tax deferred, to help better prepare for retirement and reduce taxable income today. A cash balance plan is a pension plan based of your three best consecutive years.

Who Should Consider a Cash Balance Plan?

Business owners:

  • Generating more than $500,000 in annual income
  • Interested in reducing taxes
  • May have deferred income
  • Who want to boost retirement savings 
  • Dealing with estate tax issues

Why Now?

Due to the sunsetting of the Tax Cuts and Jobs Act (TCJA), potential income tax hikes may take effect after 2025.

Here’s what Happens in 2026:

  • Current Top Tax Rate of 37% jumps to 39.6%
  • Standard Deduction will be cut in half adjusted for inflation
  • Current 20% Tax Deduction for many pass-through businesses will disappear

A cash balance plan provides the opportunity to make tax-deductible contributions.

Benefits of a Cash Balance Plan

  • Potentially reduce income taxes by receiving a large tax deduction
  • Increase and accelerate retirement savings
  • Creditor protection

How Does it Work?

A business owner layers a cash balance plan on top of an existing 401(k) plan.

Because qualified plans are subject to nondiscrimination testing, they are meant to ensure fairness by requiring that

benefits provided to highly compensated employees are proportional to those provided to non-highly compensated

employees. Consequently, nondiscrimination testing limits the contribution amounts of a business owner, who likely

faces the biggest retirement income gap of all. However, by combining a 401(k) plan with a cash balance plan, the

plan administrator can use the benefits provided by the 401(k) plan when determining the benefit to the business

owner provided by the cash balance plan. In other words, business owners are not required to offer the cash balance

plan to everyone. They may be able to carve out the cash balance plan primarily for themselves and maintain the

401(k) plan for employees.


How Life Insurance Might Fit In

Life insurance shores up survivor benefits provided by the plan and offers attractive crediting rates, income tax-free

death benefit protection, and can potentially increase the amount of the deductible contributions to the plan.

A portion of contributions to the cash balance plan is used to pay premiums on a life insurance policy on each

participant’s life, including the participants in the 401(k) plan. The participant must report the current cost of life

insurance protection as taxable income each year, also known as ‘reportable economic benefit (REB).’ If the participant

dies before retirement, his or her loved ones receive the death benefit minus cash value income tax-free, assuming

the income tax on the REB was paid. There are additional estate planning techniques where the insurance policy can be 

transferred to a trust and the death benefit utilized to off-set estate taxes. 


Considerations

A cash balance plan:

  • Requires a third-party administrator (TPA) to administer the plan.
  • Is like all qualified plans and is subject to the requirements of the Employee Retirement Income Security Act of 1974 (ERISA).
  • May be funded with life insurance.
    • Once a participant leaves the company or retires, the participant and his or her advisors must decide whether to surrender, distribute, or buy the policy.
    • The death benefit will be included in the participant’s taxable estate unless the participant employs estate planning strategies to mitigate or eliminate these tax consequences.
    • The amount of life insurance owned by plan is subject to and limited by “incidental death benefit rules.”