Looking to maximize savings? Cash Balance could be the answer!

You established a 401(k) Plan for your company and have been contributing consistently for years, and it has likely afforded your company significant tax savings and allowed you to attract and retain quality employees. While a 401(k) is a great savings vehicle, did you know there is a type of qualified retirement Plan that will allow you to contribute significantly more than the maximum allowed in a stand-alone 401(k) Profit Sharing Plan?

Most of us are all familiar with Defined Contribution Plans (e.g., 401(k) and Profit Sharing Plans). You may also be familiar with traditional Defined Benefit Plans, or pensions, historically sponsored by large companies to provide monthly retirement benefits to their retirees. For business owners that are looking for large tax deductions, accelerated retirement savings, and additional flexibility, another type of defined benefit plan, a Cash Balance Plan, may be the perfect advanced strategy.

How does a Cash Balance Plan work?

In general, a Defined Benefit Plan provides a specific benefit at retirement to participants. A traditional Defined Benefit Plan defines an employee’s benefit as a series of monthly payments for life to begin at retirement, while a Cash Balance Plan states the benefit as a hypothetical account balance. Each year, this hypothetical account is credited with following: 

•  A pay credit, such as a percentage of annual pay or a fixed dollar amount that is specified in the Plan document.
• A guaranteed interest credit (either a fixed rate or a variable rate that is linked to an index, such as the one-year treasury bill rate). 

The accounts in a Cash Balance Plan are referred to as hypothetical because, unlike a Defined Contribution Plan, the plan assets are held in a pooled account managed by the employer, or an investment manager appointed by the employer. The hypothetical account balances are an attractive feature because these accounts tend to be easier for participants to understand, as the annual benefit statements reflect the value of their account, like 401(k) Profit Sharing Plan account statements. 

Unlike a 401(k) Profit Sharing Plan, a Defined Benefit Plan guarantees the benefit each participant will ultimately receive. The Plan’s actuary calculates the benefits earned each year based on the terms of the Plan document, which in turn determines the required employer contribution due to the Plan. 

When a participant becomes entitled to receive their benefit from a Cash Balance Plan, the benefits are defined in terms of an account balance and can be paid as an annuity based on that account balance, or in many cases, the participant also has the option (with spousal consent!) to take a lump sum benefit, which can be rolled over into an IRA or to another employer’s Plan. 

What if I already sponsor a 401(k) Profit Sharing Plan? 

In most cases, a Cash Balance Plan works best when paired with a 401(k) Profit Sharing Plan. To optimize a “combined Plan” design, certain provisions in your current Plan may need to be amended, especially if the Cash Balance Plan covers non-owner employees. Due to the large benefits typically earned by the owner and/or key employees, the Plans must pass certain nondiscrimination tests when combined. These tests are more easily passed when employer contributions are provided to the staff under the 401(k) Profit Sharing Plan as Safe Harbor non-elective and Profit Sharing contributions. And although company contributions in a stand-alone 401(k) Profit Sharing Plan may be discretionary, when coexisting with a Cash Balance Plan, these contributions become required since without them, they are unlikely to pass all required combined nondiscrimination tests.

Looking to maximize savings? Cash Balance could be the answer!

Is a Cash Balance Plan a good fit for everyone?
Suitability is based on several factors, and this Plan type may not be right for everyone. Major considerations should include first asking yourself whether you want to make contributions greater than the Defined Contribution Plan limit ($58,000 or $64,500 for participants over age 50 for 2021). If the answer is yes, then next would be to consider the demographics of your company and how they will impact/influence testing. Finally, ask yourself whether you anticipate consistent profits that will allow you to fund all required contributions for the foreseeable future.

This sounds too good to be true. What’s the catch?
If you’ve decided that setting up a Cash Balance Plan sounds like the perfect way to meet your retirement goals and further attract and retain quality employees, you may be right! As previously mentioned, there are many important factors to consider before jumping in. Here are a few additional key considerations:

• A Cash Balance Plan can be designed with some flexibility, such as setting up pay credits using a percentage of annual pay, but the annual contribution calculated by the actuary is required. And when paired with a 401(k) Profit Sharing Plan, the employer contributions into that Plan become required as well to pass nondiscrimination testing.
• Because the annual interest credit is guaranteed, the employer bears the investment risk for the Plan’s assets. If the rate of return on investments is less the expected, the required contribution may increase to make up for the shortfall.
• Each qualified retirement plan must be established with the intent of permanency, and many service providers feel comfortable that maintaining the Plan for at least 3-5 years satisfies this requirement.
• Because of its complexity, expect the Cash Balance Plan to be more costly to establish and maintain than a Defined Contribution Plan.

A Cash Balance Plan may be the perfect addition to your existing employee benefit
program if you are looking to increase your retirement savings and tax deductions, and it’s important to work with an experienced service provider to determine if this solution is right for you!

» Trivia Timeout «
A 2020 report cited that ____________ percent of Cash Balance plans are in place at companies with fewer than ____________ employees, and ____________ percent have less than ____________ employees.

Missing Participants: Ready or not, here I come!

Most Plan Sponsors can relate to the trials and tribulations of having missing participants in their retirement Plan. At times, it may feel like you are on the losing end of an intense game of hide-and-seek. Your opponents (the missing participants) may not have intended to pick the best hiding spot, but in many cases, they have surely succeeded! Now you are tasked with tracking them down – and upping your game to avoid this scenario in the future.

What are missing / lost participants exactly?
Former employees who left an account balance in a retirement Plan and did not keep their contact information up to date. Additionally, they may no longer actively manage their account.

Many factors have contributed to the increase in missing retirement Plan participants over the years. Two great examples are generational differences and workforce mobilization. Unlike the generations of our parents and grandparents, today’s employees will likely work with several firms over the course of their career, versus one. Further, the ability to work remotely has mobilized employees even more – some have chosen to relocate across the country while others find
themselves living in a new locale every few months. (Many of us can relate to this, especially over the past 18 months!) These factors alone can make it difficult to keep track of participants once they leave your firm, so it’s important to develop procedures that help ensure contact information is up to date, and to illustrate the proactive measures of your efforts. Below are a few ideas based on the Department of Labor’s (DOL) Best Practices. Whatever steps you implement, be sure and relay the importance of keeping contact details current to employees and participants, and the effect that not doing so could have on them!

1. Annual Review
Have participants verify contact information at least annually. (Include current employees and those who have terminated or retired!) Capture physical and e-mail addresses, phone numbers, and consider including a review of beneficiary election, too.
2. Mailings
When completing a mailing, provide a form where recipients can reply to update their contact information if needed.
3. Returned Mail
Initiate a search as soon as mail is returned as undeliverable, return to sender, wrong address, addressee unknown, or otherwise.
4. System Log‐In
If participants regularly log-in to a company system, set a reminder or pop-up directing users to verify their contact information. In addition to incorporating procedures for ensuring up-to-date contact information, document your procedures for locating participants once they go missing. Unfortunately, even with the best of processes in place, Plan Sponsors may still have participants who go missing! The DOL offers a list of search methods that should be used to locate missing participants, they include:

• Send a notice using certified mail through USPS or a private delivery service with similar tracking features.
• Check the records of the employer or any related Plans of the employer.
• Send an inquiry to the designated beneficiary or emergency contact of the missing participant.
• Use free electronic search tools or public record databases.

A Plan Sponsor has a fiduciary responsibility to follow the terms of the Plan document and ensure participants are paid out timely. An organized and defined process, along with documentation that the process is carried out, will prove worthwhile.

Additional info on the DOL’s Best Practices can be found on their website:
https://www.dol.gov/agencies/ebsa/employers-and-advisers/plan-administration-and-compliance/retirement/missingparticipants-guidance/best-practices-for-pension-plans.

Safe Harbor: A Cure for Testing Headaches

A crucial requirement for Defined Contribution Plans is that they must not unfairly favor Highly Compensated Employees (HCEs) or key employees (such as owners) over Non‐Highly Compensated Employees (NHCEs) – and this includes 401(k) deferral contributions!

To satisfy this requirement, the IRS requires that a Plan pass certain nondiscrimination tests each year. These tests analyze the rate at which HCE and key employees benefit from the Plan in comparison to NHCEs. Failed tests can result in costly corrections, such as refunds to HCEs and key employees, or additional company contributions. Luckily for Plan Sponsors, there is a Plan design option that allows companies to avoid most of these nondiscrimination tests, called a Safe Harbor provision.

To be considered “Safe Harbor” and take advantage of the benefits afforded to Safe Harbor Plans, there are several requirements that must be satisfied. These requirements, and key characteristics of a Safe Harbor Plan, are as follows:

• The Plan must include one of the below types of employer contributions and the chosen formula written in the Plan document.
• With the exception of HCEs, the contribution must be provided to all eligible employees each Plan year.
• The contribution must generally be fully (100%) vested immediately.
• The contribution must be provided to all eligible employees without requiring the satisfaction of additional allocation conditions.
• A Safe Harbor notice that informs eligible employees of certain Plan features, including the type of Safe Harbor contribution provided by the Plan, must be distributed before the start of each Plan year, and must occur at least 30 days but not more than 90 days prior. New participants must receive this notice at least by their date of eligibility (but not more than 90 days prior).