A Qualified Plan Opportunity for Advisors
Did you know there's a qualified plan opportunity for advisors who work with business owners? It's called the cash balance plan, and it's growing in popularity among small and midsize businesses. But what's behind this budding interest in cash balance plans? How do they work? And what are the benefits for you and your business owner clients?
According to the 2016 National Cash Balance Research Report, "cash balance plans make up 29% of all defined benefit plans, compared with 2.9% in 2001." Here is what's driving this growth:
- Rising taxes
- "Hybrid" appeal (i.e., high contribution limits combined with the flexibility and portability of a 401(k) plan)
- Legislative changes (e.g., 2006 Pension Protection Act, IRS cash balance regulations)
- Dearth of retirement savings
Given this rising popularity, why not explore how this segment of the qualified plan market could help your business—and your business owner clients? Let's start by defining the cash balance plan.
The cash balance plan is a defined benefit plan with features of both a traditional pension plan and a pooled profit-sharing plan. Rather than defining an employee's benefit as a series of monthly payments made in retirement (e.g., 60 percent of the employee's highest three years of compensation), however, the cash balance plan defines the benefit as a stated account balance.
With a cash balance plan, a participant's account can grow in two ways:
- Annual company contribution. The employer contributes a percentage of pay or a flat dollar amount to the participant's account.
- Annual interest credit. For most cash balance plans, the assumed rate of return is based on the 30-year Treasury bond. This rate changes annually, but a 4-percent interest credit has been typical in recent years.
Formally recognized by the Pension Protection Act of 2006, these qualified plans enjoy IRS tax-favored status. Plus, tax advisors generally agree that these plans should be funded to their maximum before exploring other tax-efficient strategies.
Sound interesting? Indeed. Before recommending these plans to your clients, however, there are a few more important points to keep in mind.