Cash balance plans are a type of defined benefit plan, different from defined contribution plans, and have no fixed annual contribution limits.
Rather than the contribution limit being defined, the end balance or how much you would have in your account by retirement age, is predetermined. How much you can contribute to the account on an annual basis depends on how close you are to the retirement age. The older you are, the closer you are to retirement, and the more money you can put into in order to reach your target.
Therefore, contribution limits to a cash balance plan is different for every individual and must be computed and certified by an actuary.
While the cash balance plan has no defined annual contribution limits, there are a few other limits that you need to be aware of.
A cash balance plan defines the amount that your account will pay out in retirement. Unfortunately, you can’t just put in as much money as you want into the plan. It has a lifetime limit restricting how much the account is allowed to hold. This number increases each year, adjusted for inflation. For 2023, the lifetime limit is capped at $3.4 million.
This means that your cash balance plan cannot hold more than $3.4 million in assets. If you hit the target earlier than retirement, your account will remain open, but you cannot contribute anymore money into it.
Annual benefit limit
With a cash balance plan, you can choose how you want to receive your benefits once you reach retirement. You can choose to receive annuity payments or take it as a lump sum withdrawal, or rollover the account into an IRA or 401k tax-free.
If a participant chooses to receive annuity payments, the amount they can receive cannot exceed the lesser of:
- 100% of the participant’s average compensation for his or her highest 3 consecutive calendar years, or
- $265,000 for 2023 ($245,000 for 2022; $230,000 for 2021 and 2020; $225,000 for 2019).
Annual compensation limit
The IRS restricts the amount of annual compensation you can take into account for determining retirement plan contributions.
Here are the limits for the previous 5 years:
- 2023 – $330,000
- 2022 – $305,000
- 2021 – $290,000
- 2020 – $285,000
- 2019 – $280,000
This means that even if you have a $1 million worth of income, only $330,000 of it can be used for calculating your contributions to a cash balance plan. If you want to contribute $100,000 to your cash balance plan, you can’t base it as 10% of your $1 million compensation. It would instead be calculated as 30% of $330,000.
What counts as compensation? For incorporated businesses, compensation means W-2 wages. For unincorporated businesses, compensation is the net earned income from self-employment, reduced by self-employment tax.
Example contribution limits for 2023
As mentioned earlier, everyone has different contribution limits for their cash balance plan, and it must be computed and by an actuary when they set up your plan. The computations are complex and uses several factors including your age, target balance by retirement (up to the $3.4 million limit), and your level of compensation.
Here’s an example of table with different contribution limits for 2023.
|Age||401k or Solo 401k||Cash balance plan||Cash balance plan combined with 401k profit sharing|
The variable parts of this table are the cash balance plan contribution amounts. Actual contribution limits are determined by an actuary and will depend on the plan design, employee demographics in the business, and the employer’s retirement age.
To estimate the cash balance plan contribution, a maximum of $330,000 in W-2 compensation was used for the employer.
Another important thing to note is that when a cash balance plan is combined with a 401k, the profit sharing contribution drops to just 6% of compensation. Regularly, this number would be 25% of compensation for incorporated businesses, and approximately 20% of compensation for unincorporated businesses.
That being said, compare the contribution limits of a business owner with just a 401k or solo 401k with that of a business owner who has combined it with a cash balance plan. A 60 year old business owner could contribute nearly $300,000 more pre-tax income into a retirement plan for 2023 by adopting a cash balance plan with their 401k or solo 401k.
How much can I contribute to a cash balance plan for 2023?
The actual contribution limits are different for every individual and requires computation by an actuary. The formula to determine your cash balance plan contribution limit takes into consideration your age, level of compensation, and the amount of money you would like to have in the account by your retirement age. If you have employees, the calculation can get even more complex as contributions to participant accounts are mandatory each year.
That being said, the typical contribution amount to a cash balance plan is between $100,000 to $300,000 per year.