Nowadays, just about every business owner needs to sponsor a retirement plan in order to stay competitive. Even if they aren’t concerned about attracting top talent, they likely need a retirement plan to enable them to save for their own retirement. With so many tax-advantaged options, it can be hard to sort through them all, and many employers end up turning to what they are most familiar with, the 401(k).
A 401(k) might not be the best option, though. There are many lesser-known options that are superior to 401(k)s in their own way. One of those is the cash balance plan. Here are three reasons that employers should consider a cash balance plan.
1. Increased Contribution Limits
One of the greatest benefits to employers is the high contribution limits for cash balance plans. Because of the cost and the nature of the entrepreneurial journey, business owners tend to find themselves behind in saving for retirement. They spend their early years pouring all of their money back into their business. By the time they have enough free cash flow to begin saving for retirement, the amount they need to be putting away far exceeds the limitations of retirement savings vehicles such as IRAs and 401(k)s.
Cash balance plans provide a way for business owners to put aside much greater amounts in a tax-advantaged way than a simple IRA or 401(k) would. For example, a 45-year-old sponsoring a 401(k) plan could set aside $19,000, or up to $56,000 when combined with a profit sharing plan. A cash balance plan would more than double that limit to $123,000. (1) If all three plan types are combined, up to $179,000 can be set aside for retirement in tax-advantaged accounts.
The contribution limits for cash balance plans increase with age, unlike 401(k) plans. A 65-year-old with a 401(k), even with profit sharing, can only increase contributions by $6,000 to $62,000. With a cash balance plan, however, contribution limits more than double to $271,000. Clearly, a cash balance plan is superior for business owners looking to catch up on their retirement savings through large contributions.
2. Flexibility In Contributions
In addition to the amount of allowed contributions, another great benefit of cash balance plans is the flexibility they offer. Some employer-sponsored retirement plans require specific matching contributions or nonelective contributions to be made for every employee and offer little flexibility.
Cash balance plans offer business owners a choice between contributing a flat dollar amount or a percentage of pay to each employee’s account. Having this option can be very valuable, allowing a business owner to better meet his or her goals and objectives in sponsoring the retirement plan in the first place. However the plan sponsor chooses to contribute to employee accounts, all contributions are tax-deductible, which lowers the business’s tax liability.
3. Easier For Employees
In addition to being better for business owners, cash balance plans are better for employees, which in the end is better for business owners. First of all, cash balance plans are really easy for employees to understand. The way benefits are presented as account values makes their value much clearer to rank-and-file employees than other defined benefit plans with complex benefit equations. Employees like plans that make sense to them.
Also, cash balance plans are less stressful and carry less risk for employees because they do not have to choose their own investments. Most Americans are not experienced investors and lack the skill and knowledge to invest confidently. Retirement plans that require employees to manage their own investments can be intimidating, and some people even choose not to participate out of fear of investing. A cash balance plan removes that fear and the related stress and risk.
How I Can Help
As you can see, there are a lot of reasons that employers should consider sponsoring a cash balance plan. They provide great benefits to both business owners and their employees. One of their greatest advantages is that they allow entrepreneurs a way to overcome a late start in saving for retirement.
If you have a client who may be able to benefit from sponsoring a cash balance plan or if you have more questions about them, email me today at email@example.com
About Kenny Phan
Kenny Phan is a Managing Partner at FinancialFocus Retirement Plan Services. He works as a pension specialist who partners with financial professionals to design and implement pension plans. His area of expertise is customized defined benefit, defined contribution, and 401(k) plans. Serving financial advisors and businesses around the nation, he is supported by FinancialFocus Retirement Plan Services. Together, they provide comprehensive plan design consultation, administration, document installation, compliance testing, as well as IRS and DOL reporting for qualified retirement plans.