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What is a Cash-Balance Plan?

Cash balance plans are a type of pension in which the benefit is stated as a future account balance rather than an income stream. A Cash-Balance Plan is very similar to a normal Pension Plan. You do not technically contribute anything to the plan (unless you are an owner-employee), and you don’t have any control over the assets which are managed on your behalf.

In a normal pension, the benefit waiting for you in retirement is a monthly income stream, but in a Cash Balance plan, your future benefit is stated as an account balance, which you will be able to take as either a lump sum or an income stream.

You will owe income taxes on either one, as with all qualified plans. Since it is a Defined Benefit plan, it will cost more to administer than most other plans. You will have to pay an actuary, an investment company to act as custodian, premiums to the Pension Benefit Guaranty Corporation, and accountant’s fees for filing IRS Form 5500 (found here).

Business of any size can use these plans if it makes sense for them. Professional partnerships with few employees and high income are likely to benefit from these plans, since it may allow them to defer taxes on up to $200,000 of income a year.

The plan must pass top-heavy testing requirements, of course, and cash balance plans are often blended with 401(k)s to use the other plan to help them get enough participation and contributions from lower-income employees to pass the tests.

Plan assets are pooled together, but participants can see their balance in their own “hypothetical” account. This is the balance they can roll out of the plan if they change jobs, assuming they are fully vested.

It is also interesting that many pension plans have been converted to cash-balance plans, in an effort to relieve some of the long-term liabilities of employers by giving employees a definite account balance as opposed to an income stream for life (which is an uncertain length of time).

Where do I Get Started in Saving for Retirement?
What role does inflation play in my retirement planning?

Keywords: taxation, retirement accounts, vesting, top-heavy testing, rollovers, Form 5500, Pension Benefit Guaranty Corporation (PGBC), enrolled actuary,
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