While old-school defined benefit (DB) plans have become less significant for the most employers, Cash Balance (CB) plans (a hybrid DB plan) are soaring and represent a large and growing market due to substantial inflows and an ample number of prosperous prospects. Currently, the size of the CB plan market exceeds $1.3 trillion¹ and is growing—up 60 percent in the last three years. There are approximately 23,000 CB plans with 10 million participants.² CB plans provide a tax-advantaged wealth accumulation strategy for owners and employees of the “right” firms. CB plans are structured to meet the increasing contribution and deduction objectives of successful professional service firms and high earning business owners (e.g., attorneys and health practitioners).

Although a CB plan could be a standalone plan, the greatest degree of contribution/deduction flexibility and maximization comes when it is paired with a 401(k) plan. Therefore, there is a material opportunity to cross-sell CB plans to existing 401(k) plan sponsors. Some retirement planning professionals opine that the pairing of a CB plan with a 401(k) plan will take hold as the next generation of retirement savings arrangement. Financial advisors should take note of this burgeoning movement which could help business clients thrive both now and in retirement and substantially increase assets under management (AUM).

How Much More in Contributions with a Combo 401(K)/CB Plan?
Total deductible contributions to a 401(k)/CB plan can be two to four times more than contributions to a firm’s existing qualified DC plan alone. For 2023, DC plan contributions “max out” at $66,000 for participants under age 50, and $73,500 for participants aged 50 and older. CB plans contributions for an individual for 2023, potentially, based on a participant’s age and plan design, could be over $300,000—with a combined contribution total between a CB plan and 401(k) plan nigh on $400,000.

Because successful business owners often want to put away higher amounts than what a DC plan alone can provide, we believe it is a logical next step to pair the business’s existing DC plan with a CB plan. CB plan contributions can be in addition to and much larger than those allowed in DC plans and, typically, vary based on a participant’s age, compensation level and/or employment group. The combination of plans can allow for much higher deductible contributions as the following table illustrates.

Assumes a 5% actuarial equivalence interest rate, 5% interest crediting rate adjustment, 5.5% lump sum conversion, discounting to the IRC Sec. 415 dollar limit from age 62, and maximum compensation for 2023 of $330,000
Source: October Three illustration.

As shown in this table, the maximum CB plan contribution opportunity increases with age. Coupled with the maximum DC amounts from elective deferrals and profit sharing, the table shows the maximum deductible contribution opportunity available across all qualified retirement plans. While it may be appropriate for some key employees to have contributions at the highest levels, for others it may not. The flexibility built into the overall program is designed to meet the individual needs of each key employee.

In our view, the main reason such business owners are or would be interested in a 401(k)/CB plan combo is to achieve higher contribution and tax deduction limits than those available in a 401(k) plan alone. Other features include:

• Income deferral opportunities far beyond DC limits,
• Flexibility around who is covered and the contribution level,
• Tax-deductible contributions that are plan assets protected from creditors (unlike nonqualified deferred compensation plan assets),
• Lump sum payouts available for rollover or Roth Conversion and
• Transparency regarding the cost of each participant’s benefit.

Which Businesses Are the Right CB Plan Prospects?
Financial firms that specialize in CB plans have found that the following industries are most likely to be interested in a CB plan. These businesses typically exhibit consistent cash flows and income levels high enough to support large contributions.

• Medical specialty groups (e.g., radiologists or imaging centers, anesthesiologists, orthopedics, gastroenterologists,
• etc.),
• Law firms and
• Capital investment firms.

While those are the “big three,” other prime prospects, including the following, have shown interest:

• Engineering Groups,
• Accounting Firms and
• Architectural Firms.

“But Don’t I Have to Be an Actuary to Sell CB Plans?”

Fortunately, the answer is an emphatic, “No.” Some financial advisors are intimidated by CB plans. But the truth is you don’t have to be afraid; and you don’t have to be an actuary—there are professionals to assist with the design and service elements of these plans. Advisors can partner with a firm or other entities for plan design, administration and actuarial services. First Eagle Investments, for example, has assembled a turnkey CB team of providers that advisors can readily plug into with ease. The advisor’s role is to do what he/she does best: Place the assets on their current wealth management platforms and assist the plan sponsor in making investment decisions to achieve the plan’s objectives, as they would with other assets under management. In fact, CB plans, in many respects, are easier for an advisor to service than 401(k) plans. For that reason, CB plans are a simple way to increase AUM without the usual DC plan headaches with the right team.

401(k)/CB Plan Service Team

CB Plan Design
Since, CB plans are a type of DB pension plan that provides participants and beneficiaries with a promised retirement benefit they carry with them a funding obligation that lies with the plan sponsor. Increases and decreases in the value of a CB plan’s investments do not directly affect the benefit amounts promised to participants. Thus, the investment risks and rewards on plan assets are borne by the employer. For that reason, the right plan design is essential to businesses owners.

Although a CB plan is a type of DB plan, it looks more like a DC plan. Like a 401(k) plan, a CB plan is expressed as an account balance (albeit hypothetical). But CB plan assets are managed in a pooled trust rather than in individual accounts. Unlike a traditional DB plan, a CB plan has the look and feel of the firm’s existing DC plan where each participant has an “account” that grows each year with contribution credits and interest credits.

In a typical CB plan, a participant’s account is credited each year with a pay credit (such as five percent of compensation from the employer) and an interest credit, often referred to as the “interest crediting rate” or ICR. The ICR is important, as it can be a key driver of how much risk and volatility is present within a plan design. There are two ways a plan can credit interest to a participants account:

Fixed ICR
Prior to 2007, all cash balance plans used a fixed crediting rate. In this case, the plan simply adds a set percentage to a participant’s account at the end of each year. For example, if the balance at the beginning of the year is $10,000 and the ICR is a fixed 4%, the participant gets $400 added to his/her account at the end of the year, regardless of the performance of the underlying assets.

A fixed ICR can be frustrating to plan sponsors and service providers. When the promise does not align with the underlying rate of return, contributions become volatile (either much higher or much lower than anticipated) in order to get assets back in sync with promised account balances. Not a desirable outcome for plan sponsors.

Market Rate Return
This is an interest credit where participants’ accounts grow with actual trust returns. A Market Rate Return CB Plan minimizes the risk and volatility present in fixed-rate CB plans and is the method most plan sponsors prefer.

Note: If actual returns are used, a participant must receive at least the promised contribution credits, or, put another way, a guaranteed zero percent return over the lifetime of participation in the plan. The ICR for newer CB plans (after 2006) is often tied to the underlying investment returns in an effort to minimize risk to the plan sponsor and create a promise that behaves similarly to the way a 401(k) plan operates.

What Now?
There is every indication that combo 401(k)/CB plans will be the next generation of qualified retirement plan for thriving businesses owners, offering them the highest level of tax qualified benefits while giving financial advisors a new way to increase AUM. Contrary to popular belief, advisors do not have to be actuaries to sell CB plans. First Eagle Investments can help financial advisors assemble a CB team of providers who specialize in plan design, administration and actuarial services. This allows financial advisors to do what they do best—investing assets within their existing wealth management platforms. 

1. Act now by considering the below Action Plan and reach out to your First Eagle representative to learn more.
2. Take inventory of current clients who are Business Owners who already have a 401(k) plan in place
3. Contact First Eagle to help generate a list of local businesses that may be appropriate targets
4. Meet with your CB team to plan a course of action
5. Schedule meetings