When employees participating in a cash balance plan retire, how they are paid out through the plan differs in key ways from traditional pensions or defined contribution plans like a 401(k). Learn how these plans pay out retirement income and what you should keep in mind as you guide small business owners through managing these plans.
Basics Of Cash Balance Plans
Cash balance plans combine some elements of defined benefit plans, more commonly known as traditional pensions, and defined contribution plans such as 401(k)s. Participants in a cash balance plan have their own account, which is funded through a pay credit, often a percentage of their salary, and interest credit, which can be a fixed or variable rate of return that is credited to the account. Similar to a pension plan, all investment risks in the account are borne by the employer and the employee doesn’t invest any of his own funds into the account.
Cash balance plans offer much higher contribution limits than other retirement plans, making them appealing to small businesses with high earners, such as a law firm. Contribution limits are based on age and the maximum allowed payout. For example, in 2020 you can contribute up to $75,000 to a cash balance for a 35-year-old employee. As a small business owner, you can offer cash balance plans to your employees alongside other retirement plan options, including a 401(k).
Cash Management Plan Payout
When an employee in a cash management plan retires, they have two options for receiving retirement benefits that equal the sum of the money in their account. In one scenario, they can receive an annuity payment for life. In many cash management plans, the employee can also choose to receive a lump sum equal to the account balance, which they can then roll over to an individual retirement account.
For many retiring employees, the annuity vs. distribution decision offered by a cash management plan often requires the insight and expertise of an experienced financial advisor who can look at their entire financial situation, including other retirement accounts and expected expenses in retirement. Though opting for the annuity option can bring lifetime income, taking a lump sum can give the retiree greater flexibility to invest the money on his own.
What about employees who are leaving an employer that offers a cash balance plan but are not yet retiring? They have more flexibility in taking that money than through a traditional pension. The money in their account is portable, meaning that they can take the amount vested in their plan and roll it into an individual retirement account.
Navigating Cash Balance Payouts
Navigating payout for a cash balance differs from other retirement plans and usually requires specialized knowledge. Because I’m a pension specialist, I can work both with you and your client to set up and administer the retirement plan or plans that best fits everyone’s needs. Interested? Email me today at firstname.lastname@example.org.
About Kenny Phan
Kenny Phan is a Managing Partner/Pension Consultant 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.