Insights for high-earning business owners to accelerate their retirement savings and take advantage of tax deduction opportunities
Cash balance plans are a hidden gem for high-income business owners who’d like to boost their retirement savings while lowering their tax bill. Perfect for entrepreneurs who’ve maxed out their 401(k) plans, cash balance plans offer a place to park additional savings beyond traditional retirement accounts. They can also provide a timely solution to lower your taxable income for the current fiscal year.
But cash balance plans also come with pros and cons, and business owners in high tax brackets should carefully consider both. The following guide outlines cash balance plan logistics, risks and potential rewards to help determine if one is right for you and your overall wealth strategy.
What is a Cash Balance Plan?
In a typical cash balance plan, employers make two contributions toward the employees’ accounts: pay credit and interest credit. Pay credit is a percentage of an employee’s compensation paid directly into their plan account. Interest credit is a guaranteed rate that’s linked to an index, such as the 30-year Treasury bond.
As the business owner, you’re responsible for company contributions as determined by the plan document. In this way, a cash balance plan is a defined benefit plan. It outlines the contributions that you’ll make and the investment earnings that will be allocated to each participant. Since each participant will have their own account, a cash balance plan requires an actuary to handle management and issue annual statements.
The upside for business owners is more straightforward. Treated as a deduction, contributions to cash balance plans reduce your ordinary income dollar for dollar. By deducting cash balance contributions from profits, your money can grow tax-deferred while possibly saving you thousands of dollars in annual taxes.
Who Is a Cash Balance Plan For?
Since self-employed business owners tend to focus on growth in the early stages of their careers, cash balance plans can offer an opportunity to catch up on their retirement savings. But because fluctuations in the plan’s investment don’t affect the participant’s benefits, business owners bear all the risk of a cash balance plan. If you have employees, you may find yourself offering guaranteed retirement contributions that could prove costly.
This is why cash balance plans are most beneficial to solopreneurs or small business owners with few employees in the plan. They’re ideal for partners and owners who want to save more than the maximum allowed 401(k) contribution and lessen their taxable income. But there are also important pros and cons to weigh before deciding if a cash balance plan is a good solution for you and your retirement savings needs.
Cash Balance Plan Pros for Business Owners
- They’re deductible business expenses that lower your ordinary income dollar for dollar.
- Owners and partners can receive a different contribution amount than employees.
- If you’re over 40, you can contribute beyond what traditional retirement plans allow.
- They can help attract and retain top-notch talent.
- Employees who leave the company can receive the vested portion of their account balances.
- With specialists managing the plan, porfolio investments can be tailored to meet your objectives.
Cash Balance Plan Cons for Business Owners
- They’re an ongoing financial commitment.
- They’re difficult and expensive to cancel.
- Your business needs a steady cash flow to continue contributing to the plan.
- If your employees are close to your age, you may end up contributing sizable amounts to their accounts.
- You must work closely with an experienced cash balance plan advisor to set up the proper structure.
If you’re a business owner looking to maximize your retirement savings and minimize your tax liability, establishing a cash balance plan for your business could be a smart personal finance decision. At CornerCap, we work with plan administrators and tax professionals to evaluate the potential impact this vehicle could have on your business. For more information, reach out to our team and let CornerCap help you set up a cash balance plan that meets your personal and business goals.