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Maximizing Your Pre-Tax Dollars
KnightNguyen
subscriber Posts: 6
A New Approach to Cash Defined Benefit Plans
A recent favorable IRS ruling has generated some buzz on cash-balance retirement plans, and advisors should expect their popularity to rocket among business-owning clients and other highly paid professionals.
These plans allow highly compensated participants to accelerate tax-deferred savings at a much higher rate than is possible with more common 401(k) plans.
While 401(k)s, like other defined-contribution plans, can help clients shelter compensation from taxes, the plans must follow federal limits for participants’ annual pretax contributions: $18,000 in 2015 for those under age 50 and $24,000 for those above.
In contrast, participants in cash-balance plans, which have defined benefits, need not adhere to any government-set maximums for their annual pretax contributions. Instead, maximum pretax contributions are calculated for each participant based on age and earnings, and according to a preset targeted return on the plan’s assets.
What does that mean for a client who owns a professional practice or small business?
With a cash-balance plan, an older, highly compensated practice-owning doctor, lawyer or business owner can park more than $250,000 a year in the pretax account — even as the costs of sponsoring and administering the plan for employees remain below those of a 401(k) plan.
The tax-deferral benefits apply as long as the plan ensures “proportionate benefits are provided to a sufficiently broad-based employee population,” according to the U.S. Department of Labor’s Employee Benefits Security Administration.
A recent favorable IRS ruling has generated some buzz on cash-balance retirement plans, and advisors should expect their popularity to rocket among business-owning clients and other highly paid professionals.
These plans allow highly compensated participants to accelerate tax-deferred savings at a much higher rate than is possible with more common 401(k) plans.
While 401(k)s, like other defined-contribution plans, can help clients shelter compensation from taxes, the plans must follow federal limits for participants’ annual pretax contributions: $18,000 in 2015 for those under age 50 and $24,000 for those above.
In contrast, participants in cash-balance plans, which have defined benefits, need not adhere to any government-set maximums for their annual pretax contributions. Instead, maximum pretax contributions are calculated for each participant based on age and earnings, and according to a preset targeted return on the plan’s assets.
What does that mean for a client who owns a professional practice or small business?
With a cash-balance plan, an older, highly compensated practice-owning doctor, lawyer or business owner can park more than $250,000 a year in the pretax account — even as the costs of sponsoring and administering the plan for employees remain below those of a 401(k) plan.
The tax-deferral benefits apply as long as the plan ensures “proportionate benefits are provided to a sufficiently broad-based employee population,” according to the U.S. Department of Labor’s Employee Benefits Security Administration.
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