With Defined Benefit Plans, employees payments are calculated according to how long they have been with the company, and what their salary level was when they retired.
Defined contribution plans specify the amount that goes into a retirement plan today. This is usually a percentage of the employee’s salary, or can be set at a specific amount. Those funds are invested, typically in mutual funds available inside the retirement plan. The amount employees receive at retirement depends on how much the employer has contributed to the plan, how much the employee has saved in the plan, how long the funds have been invested, and how well the investments perform in the plan.
Defined Benefit Plans Make Sense for the Small Business Owner
With a 401K and an IRA, most small business owners can only defer tax payments up to around $25,000. With a pension plan complementing other retirement vehicles, business owners can save over $100,000 for retirement, and pay taxes when the funds are distributed. Since this is typically after retirement, when their level of taxable income is lower, they save even more.
Pension Plans Sweeten your Employee Benefits Package, Increasing Employee Retention
When you offer all of your employees a pension plan as part of their benefits package, you can increase worker retention as well as have a better chance of attracting the best talent to your business. Offering a pension plan makes your company more competitive in the realm of recruitment. Plans can be funded through profit sharing as well, which gives employees more incentive to perform at top productivity levels. By offering plans on a gradual vesting basis, you can also help to build a more dedicated long-term workforce for your business.
Cash Balance Pension Plans
Cash Balance plans are a type of Defined Benefit Plan, but these plans are maintained on an individual account basis. They’re like ordinary Defined Benefit Plans with an added 401(k) feature. With Cash Balance plans, employees are still assured of a certain benefit once they retire, but that amount is not a monthly income stream – it’s an account balance, just like with 401(k) plans.
Cash Balance plans can help cut tax bills, which is often attractive to the older business owner looking to bump their retirement savings up. Contribution limits in Cash Balance plans are generous and increase with age. Whereas with 401(k) plans contributions for participants 50 and older are limited to $57,500, with Cash Balance plans a business owner 60 or over can contribute over $200,000 annually.