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2023 Cash Balance Plan



Overview Employers can use a Cash Balance Plan to credit employees’ retirement accounts with a set percentage of their yearly compensation. It is commonly referred to as a cash balance pension plan, defined benefit plan, and cash balance retirement plan.


Do I Qualify for the Cash Balance Plan? A cash balance plan is a type of defined benefit plan in which an employer credits a participant’s account with a set percentage of their compensation.


2023 Cash Balance Plan Details A Cash Balance Pension Plan is a type of defined benefit plan in which an employer credits a participant’s account with a set percentage of their annual compensation, plus interest charges.


How does a Cash Balance Plan work? These plans qualify for defined benefit treatment because they deliver a stated account balance at retirement. Participating employees are promised a certain amount at the end of their service based on the contribution percentage and a fixed interest rate. The maximum contribution varies by age but is typically much higher than a 401(k) or a profit-sharing plan.

Cash balance pension plans differ from 401(k) plans in four key ways:

  • Employees don't contribute to them.

  • Employers control where the fund assets are invested and bear all investment risks.

  • They're required to offer a “life annuity” distribution option.

  • As a defined benefit plan, they typically qualify for federal insurance under the Pension Benefit Guaranty Corporation (PBGC).

Receiving benefits from a Cash Balance Plan When a participant becomes eligible to receive benefits under the plan, those benefits are typically described in terms of the account balance at the time. Participants can choose an annuity based on that account balance. In some cases, Cash Balance Plans allow participants to take the account balance in a lump sum at retirement. Those who choose the lump sum option usually roll the amount over into an IRA or another employer’s retirement plan or purchase an annuity.


Potential risks for employers The employer bears the risk of any investment fluctuation that affects plan assets. Because it's a defined benefit plan, a cash balance plan’s funding limits, funding requirements, and investment risk track with defined benefit requirements. Failure to properly fund the plan account on a quarterly basis will result in interest and penalties for the employer.


Benefits

  • There are potentially greater contribution amounts available than in 401(k) plans.

  • The plan isn't subject to the same annual contribution limits as a defined contribution plan.

  • The business can retain earnings in excess of the plan’s promised return rate.

  • The plan can be offered in addition to other plans, like 401(k)s.

Considerations

  • Recordkeeping costs may be greater than in a traditional defined benefit plan.

  • The business has contribution requirements, even if there is no profit.

  • The plan may require pension insurance.

  • The plan isn't allowed to discriminate in favor of certain employees.

Conflicting strategies: SIMPLE IRA for Businesses, SIMPLE 401(k) for Businesses


Assumptions When Taking the Cash Balance Plan

  • The employer makes the maximum contributions allowable.

Requirements to Claim the Cash Balance Plan

  • The business sets up a cash balance plan.

  • The business has a trustee or investment firm manage the assets.

  • The business has prepared an employee census used to determine contribution requirements.

Conflicting Strategies

  • SIMPLE IRA (Business)

  • SIMPLE 401(k) (Business)

  • Defined Benefit Plan

  • Section 412(e)(3) Plan

Business Entities That Can Claim the Cash Balance Plan

  • Schedule C

  • Schedule F

  • S Corporation

  • C Corporation

  • Partnership


Conclusion:

The Cash Balance Plan, commonly referred to as the cash balance pension plan or defined benefit plan, offers a distinct advantage to employers and employees when it comes to retirement planning. For the year 2022, this plan allowed employers to credit a set percentage of an employee's annual compensation, augmented by interest charges, ensuring a predetermined account balance at retirement. Unlike traditional 401(k) plans, employees aren't required to contribute, and the employers bear the full investment risk. This plan is especially favorable for older employees as it often allows for higher contributions than a typical 401(k) or profit-sharing plan.


However, it's imperative for employers to understand their responsibilities and potential risks. The obligation of managing investment fluctuations and ensuring the plan is adequately funded quarterly lies with the employer. Failing to do so might lead to penalties. On the upside, the plan offers benefits such as potentially greater contribution amounts and the ability for the business to retain earnings surpassing the plan's promised return rate.


For the year 2023, businesses considering adopting or continuing with the Cash Balance Plan should evaluate the plan's benefits against its requirements and potential risks. It's also essential to consider alternative strategies and ensure that the plan aligns with the company's broader financial and employee welfare objectives.

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