Retirement plans are an essential part of an employee’s benefit package and one that employers carefully select.
There is seemingly no limit to the options available for all employers – from new companies with a few employees to large companies with hundreds and thousands of employees. Employers can select from 401(k) plans, 403(b) plans, profit sharing plans and pension plans. Another plan that has been increasing in popularity is called a cash balance plan. This hybrid plan offers distinct advantages to certain business owners, which has made it increasingly popular in recent years. To help clients, prospects and others determine if a cash balance plan is the best option, Hanson & Co. has provided a summary of key plan benefits and information.
What is a Cash Balance Plan?
A cash balance plan is a hybrid plan that contains features of both defined contribution and defined benefit plan types. Employees are given individual accounts that include a percentage of annual compensation contributed along with an interest rate (variable or fixed). The company establishes the funding rates and manages the investments; individual account owners do not direct investment options. The plan is considered a hybrid because its investments are structured like a defined benefit plan, but the account features are those commonly used in defined contribution plans.
Pros and Cons of Cash Balance Plans
This plan type offers many benefits for an organization, including the option for increased tax deductions, the ability to manage benefits to favor key employees, high contribution limits and a more consistent cost schedule. Employees also benefit from the hybrid structure because the plan is fully funded by the employer, it accumulates tax-deferred wealth and the account is portable in the event of a job change. Cash balance plans can also be used in combination with 401(k) plans.
Cash balance plans also include many drawbacks for employers. This includes the larger benefits offered to short-service and younger employees who have not participated in the plan for a long period and the higher cost to employers to maintain a cash balance plan. In addition, the conversion process can be quite complex, and it’s likely that certain participants will receive a significant benefit over others. A key drawback for employees is the reduced benefit they receive early in their career because benefits are based on the employee’s salary over their career with the company.
Is a Cash Balance Plan Right for You?
Typical candidates for this type of plan include employers that want to make more in contributions than is allowed under traditional plan types, those that have resources to make required aggregate plan contributions and those that have several older employees mixed with younger professionals. Also, it’s quite common for a company that has a 401(k) or profit cash balance plan to offer a cash balance plan as well.
Cash balance plans offer a unique retirement savings opportunity for many business owners. However, it’s essential to understand that this plan type is not right for everyone. If you are interested in learning more about cash balance plans or have other retirement planning questions, Hanson & Co. can help. For additional information, please call us at (303) 388-1010, or click here to contact us. We look forward to speaking with you.