One person business owners are in a unique situation. They are allowed to choose a flexible retirement plan and only contribute for themselves.
This gives rise to one of the best retirement strategies – the solo cash balance plan. It can also be combined with a solo 401k.
Many business owners have heard of a solo 401k plan. Contributions are made by you (the only qualifying employee) and then the business can make a profit sharing contribution if desired. Both contributions are tax deductible. But a cash balance plan works a little differently.Simple Navigation
- How Does a Solo Cash Balance Plan Work?
- A Single Participant Plan
- Independent Contractors
- Withdrawal Rules for One Person Cash Balance Plan
- What About a Solo Cash Balance Plan Rollover?
How Does a Solo Cash Balance Plan Work?
But a solo cash balance plan works a little differently. There is no employee contribution. The company makes a contribution to the retirement account based on an actuarial determined calculation. The goal of which is to provide you with a lump sum or specified annuity payment upon retirement.
However, within the plan documents the employer offering the benefit will state an “interest charge fee”, referring to an interest contribution they will make to the account on top of the regular contributions.
To some this may be a less stressful form of growth, others may prefer to dictate how their investments are made, making this a potential benefit or negative aspect of a cash balance plan based on your preferences.
This allows for more steady growth of the plan, without the volatility of potential stock market fluctuations that may occur. The interest charge fee is usually anywhere from 4%-5% annually of the amount that has been contributed.
The funds in a cash balance plan are usually professionally managed by a investment firm. They are usually invested into mutual funds and other liquid investments.
But you can also put life insurance in a cash balance plan. The investments are directed by the investment firm based on the employer’s investment objectives. The employees technically have no say in the investments made.
Some general rules of a solo cash balance plan include:
- Full tax deferral retirement structure;
- Ability to combine the plan with other structures like a 401k plan;
- Contributions are made by your company as a percentage of compensation;
- The rate of return is determined by the plan document as an interest credit that is deposited by the single participant employer along with the regular yearly compensation contributions.
A Single Participant Plan
The IRS has established specific rules for different qualified one person retirement accounts. Among those rules are contribution limits. Contributions to most retirement vehicles have tax benefits and are not to be taken advantage of.
Unlike other qualified retirement plans, cash balance plan contribution limits are unique. There is not actual a set dollar amount. Rather, each contribution limit is different for each employee’s situation. Within the plan documents, are defined how contribution limits are determined.Looking for more information on cash balance plans? Take a look at our ultimate guide to cash balance plans. Discover our favorite strategies!
Contribution limits are age dependent, allowing older employees to contribute more as they near retirement, and younger employees to contribute less. The contribution limits are dependent upon age, length of service with the company, position, and job responsibilities.
The contribution limits of 401(k)s, IRAs and other retirement vehicles vary as well, but each has a set yearly limit. One person cash balance plans allow one to take advantage of the contribution limits of multiple retirement accounts, resulting in an even higher aggregate annual limit for those wanting to save heavily for retirement.
While any business industry can be a good candidate, professional service firms can work great. Professional service firms tend to have less overhead and higher earnings power than many business types.
Let’s look at some professional service firms that could benefit from a cash balance plan:
- Attorneys and law firms
- Accountants and CPAs
Law firms and medical groups have historically been significant proponents of cash balance plans. Obviously, a significant reason why is because of consistent high income. But these practices are looking for a way to get more money into practitioner’s retirement accounts.
Withdrawal Rules for One Person Cash Balance Plan
Part of the reason that retirement plans are offered is to incentivize consumers to save money for retirement. This is done by creating penalties for funds that are withdrawn earlier than the stated age of retirement defined within each type of retirement account.
Solo cash balance plans will allow you to withdraw funds without any penalties only if you withdraw the entire balance in the account. Any withdrawals that are made will still need to be taxed as ordinary income.
If a withdrawal is made in an amount less than the account balance, a 10% penalty will be charged, along with the taxes that will be owed on the amounts withdrawn.
Should one leave their employer for a new career opportunity or job opportunity, cash balance plans are able to be rolled over into an IRA so that you can keep contributing to the balance for retirement.
What About a Solo Cash Balance Plan Rollover?
Can you rollover a one person cash balance plan? Yes. Cash balance plans can be rolled over into an IRA upon certain qualifications.
The most common circumstance that this will happen is when the company terminates the plan based on a fundamental business change. Once the plan is terminated the balance is rolled over into an Individual Retirement Account (IRA).
How to structure a solo cash balance plan and solo 401k:
- Make sure you have no qualifying employees
If you have employees who work over 1,000 hours and are at least 21 years of age, you may have to include them in the plan.
- Coordinate your plan document with your administrator
Discuss your employee situation with the third party administrator and make sure you customize the plan accordingly.
- Locate a custodian to handle the investments
Since you are the trustee of the plan you will need to find a custodian to handle the investments. Schwab, Vanguard and Fidelity are popular options.
- Sign the plan
Once you have reviewed the plan with the TPA and the custodian make sure that you get the plan documented and signed before the deadline.
- Fund the plan
Make sure that the contribution is completed before you file the tax return. The IRS does not allow late contributions.
Are you a top candidate for a single participant plan? If you have the cash flow to make substantial retirement contributions and are looking for large tax deductions, then a plan may be just what you are looking for.