“The reports of my death have been greatly exaggerated.” – Mark Twain
More and more companies (and perhaps even governments) are switching from defined benefit programs to defined contribution programs. The main reason for the switch – cost. Employers want to trade a known cost “defined cost” for an unknown cost “defined benefit”.
However, like Mark Twain, the death of one type of pension, the Cash Balance Pension Plan, has been greatly exaggerated. To the contrary, CBPPs are growing fast. These plans are like old fashioned traditional defined benefit pension plans but with important distinctions. As in a traditional pension plan, investments are professionally managed and participants are promised a certain benefit at retirement or separation. But the promised benefit is stated as a balance and not as a lifetime income stream. This is much more attractive and affordable for business owners, and provides a nice supplement to employee retirement nest eggs. Unlike traditional pension plans, they don’t require uncapped employer contributions, a factor that has played a key role in the disappearance of the traditional defined benefit plan.
Owners of small to medium sized businesses have begun turning to Cash Balance Plans as a way to accelerate their retirement savings while reducing their taxable income. Cash Balance Pension Plans have generous contribution limits that increase with age. In some cases, business owners 60 and older can put away as much as $200,000 annually in pretax contributions. This contribution can be done in addition to a 401k/profit sharing contribution which is limited to $57,500 for those 50 and older.
In 2012 Cash Balance Plans held $858 billion accounting for 28% of all defined benefit plans. According to the retirement consulting firm Kravitz Inc., this startling growth propelled CBPPs up from a 3% market share in 2001. Business owners will need to make contributions on behalf of regular employees, which has become an extra benefit that has helped employers retain talented staff. The plans will likely be more costly than a typical 401k in part because an actuary must certify each year that the plan is properly funded. For many business owners, the tax advantages that come with a six-figure annual contribution easily outweigh the costs of the plan.
If you are a business owner and haven’t yet had an analysis on this type of plan for your business, please give us a call! You may be missing an incredible tool for your own retirement, and an important strategy to help your employees.
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