Which business owner will benefit from the cash balance plan the most in tax savings?

Financial Planners


Tax planning is a great way to help increase your take home income as a small business owner. Setting up a cash balance plan can save business owners over $100,000 in taxes annually. These tax savings can be even higher for business owners in high tax states such as California and New York.

Who will benefit most from the Cash Balance Plan?

The Cash Balance Plan is one of my favorite tax planning tools. For the right business owner, the tax savings can be huge. With many successful business owners lagging behind when it comes to secure retirement financing, a higher contribution limit on a cash balance plan can help catch up with retirement during peak earnings.

Even with all the benefits of a cash balance plan, it’s only suitable for some business owners. Here are some attributes of people who would benefit most from setting up this type of retirement plan for their business.

· I want to increase contributions to my retirement account.

· You want to save more than your basic 401(k) plan or SEP IRA allows.

· Relatively stable business income.

· Your household income is $275,000 or more.

· You want to save more than $50,000 in taxes each year.

· Your company has no more than 16 full-time W-2 employees.

Employers are older than the average employee.

Extra credit if you live in a high tax state (higher state tax = higher tax savings)

What are the main benefits of the Cash Balance Plan?

A cash balance plan has several advantages. It turns out that many business owners who set up a pension plan are motivated by the considerable savings that a cash balance plan can offer. Similarly, higher annual contribution limits allow older business owners to expedite the amount of income that goes into their pre-tax retirement account. Finally, cash balance plans can be great employee benefits that help companies retain top talent.

How do cash balance plans work?

By utilizing a cash balance plan, each participant’s retirement benefits will increase each year in two ways: employer contributions and interest rates. Contributions to cash balance plans are generally paid in the following year before business tax is filed. In plain English, contributions for the 2022 tax year he makes in 2023.

Your employer’s annual contribution can be a flat amount or a percentage of your income. For example, $10,000 per participant per year, or her 4% of the participant’s annual income. As long as the plan passes her ERISA compliance test, this contribution varies between employees and owners. Annual funding formulas are unique to each company and depend on employee demographics and employer goals. Hopefully, a trusted fiduciary financial planner will be able to walk you through cash balance plan options and help you determine if setting up this type of plan will help you with your specific tax and retirement planning goals. I hope you are.

When designing a cash balance pension plan, the actuary estimates the amount of contributions an employer will need each year based on market growth in plan assets, the plan’s census data (essentially employee data), and interest rates. Calculate. Actuaries also help ensure plans pass annual compliance tests. Financial with a focus on tax planning Her planners help optimize the design of this plan to maximize business owner profits while meeting ERISA requirements.

All assets in the cash balance plan are pooled and the employer makes all contributions. Investment allocations within a plan typically seek returns consistent with interest rates to minimize employer risk.

Cash balance plans are most often designed in conjunction with 401(k) profit sharing plans to provide maximum tax benefits and ease the process of passing compliance tests.

An example of a hypothetical cash balance plan

A highly successful 56-year-old small business owner wants to significantly increase her retirement savings and reduce her tax liability. He earns over $1 million a year and earns $330,000 a year. This business he owner has quite a few “employees” but they are all part time or independent contractors and do not need to be included in these retirement plans.

The design calculation of the cash balance plan allows the owner to contribute $250,000 before tax to the cash balance. He can also add pre-tax contributions of his $73,500 (employee, employer and catch-up contributions) in 2023 to maximize his 401(k) profit sharing plan.

In a scenario like this, if you can contribute $300,000 a year to your retirement fund, it’s easy to open a cash balance plan. The more employees there are, the fewer contributions will be paid directly to you, the owner. If you have less than 15 full-time employees than her, it’s worth doing the numbers to see how you can design your cash balance plan to meet your tax planning and retirement planning needs.

Not all financial advisors and financial planners are happy to help you optimize and set up your cash balance plan. For best results, you should plan during the tax year. However, the deadline for setting up and funding a cash balance plan is the tax deadline, including any extensions. So there’s still time to plan this tax savings for 2022.

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