Cash Balance Plans

Cash balance plans are the secret retirement plans used by high-earners. While they are painful to set up and administer, they are completely unmatched by size of benefit.

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Defined Benefit vs Defined Contribution Plans

The tax code in America provides for two types of retirement plans:

Defined Contribution Plans

These plans have firm limits on exactly how much can be contributed every single year, but no limit in terms of how big the benefit you receive during retirement is.

You are probably already familiar with these plans: a 401k is a defined contribution plan that has very specific limits on the maximum amount that can be contributed every year.
Defined Benefit Plans

These plans have no set contribution limit, but instead work backward from providing a defined benefit at retirement.

There are many types of defined benefit plans — some popular examples include pension plans, cash balance plans and flat dollar plans.

While most people spend the majority of their time focusing on defined contribution plans, high earners can benefit from taking a look at defined benefit plans to supplant their defined contribution plan.

A cash balance plan, which is a type of defined benefit plan, can be ideal for certain types of high earning professionals.

Cash Balance Plan Overview

A cash balance plan is a type of defined benefit retirement plan but with a modern twist.

Unlike old school pensions that provide a fixed monthly payout based on salary and years of service, a cash balance plan maintains hypothetical individual accounts for each participant.

Your employer credits your account every year with:

A pay credit - a percentage of your salary (5%-8%)
An interest credit - a guaranteed rate tied to Treasury yields or a fixed percentage (4%-5%)

These accounts are structured to work backwards from the maximum retirement benefit of $280,000 a year, which roughly works out to a lump sum of ~$3.5 million at the age of 62.