FREE Cash Balance Plan or Defined Benefit Plan? The Secret Revealed


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By now you probably understand how important a cash balance plan or defined benefit plan can be to your tax planning arsenal. But did you know you may be able to get a FREE plan? We’ll show you how it works.

Most CPAs and financial advisors are not aware of this tip. In fact, we expect this strategy is missed over 90% of the time. Let’s walk through it. 

On December 20, 2019, Congress established the SECURE Act. The Act allows for significant enhancements to how retirement plans are structured and administered. For most business owners, these changes took effect on January 1, 2020. 

Essentially, the Act had one significant provision – it increased the tax credits for plans in their first three years. 

What the SECURE Act tax credits and how do they work?

The SECURE Act allows any eligible small business to claim a tax credit for setting up a new 401(k) plan, cash balance plan or defined benefit plan.

Prior to the SECURE Act, an eligible business could claim tax credit that was up to 50% (or half) of their qualified startup costs. This was capped at $500. 

Taxes written on hanging tags

But now things have changed. The limit was increased to the greater of (1) $500 or (2) the lower of (a) the number of non-Highly Compensated Employees (non-HCEs) multiplied by $250 for the employees eligible to participate or (b) a flat $5,000. This credit can be taken for three years.

What constitutes “qualified startup costs?”

“Qualified startup costs” are specifically discussed in the Act. They include any ordinary and necessary fees or costs that a business incurs to:

  • Establish and administer the qualifying retirement plan, and 
  • Educate the employees about the plan itself.

So what retirement plans can qualify for the SECURE Act tax credits?

401(k) plans, Defined Benefit Plans, Cash Balance Plans, and Simplified Employee Pensions (SEPs). Unfortunately, 403(b) plans do not.

Can my business qualify for a SECURE Act tax credit?

Let’s take a look. To be eligible, you just have to meet the following 3 requirements:

  • Have a maximum of 100 or fewer employees who were paid at least $5,000 in compensation by your business in the prior year;
  • The plan must cover at least one non-HCE; and
  • In the preceding 3 tax years prior to the first year you’re eligible for the credit, your employees can’t be substantially the same employees who received contributions or accrued retirement benefits under another plan that was sponsored by you or a member of a controlled group.

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How is a non-Highly Compensated Employee Defined?

This is an important part of the Act. A non-Highly Compensated Employee (or non-HCE) is a participant in the plan that is not called a Highly Compensated Employee (HCE). The IRS states that an HCE is a person who:

  • Had an ownership interest of more than 5% at any time during the current or prior year, regardless of how much compensation he or she received, or
  • For the prior year, had compensation of more than $125,000 (if the preceding year is 2019) and $130,000 if the preceding year is 2020. At the choice of the employer, this person was in the top 20% of employees based on ranked compensation.

How do I claim the startup tax credit?

The IRS form is simple and would be completed with your business tax return. You would file Form 8881 (Credit for Small Employer Pension Plan Startup Costs). This form is completed by your CPA and should not be that challenging.

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Does a solo 401(k) qualify for the SECURE Act tax credits?

No. These plans only cover business owners and their spouses. So there are no non-HCEs. 

The SECURE Act tax credits make it cheaper than ever to start a defined benefit plan or cash balance plan

Business owners can deduct the fees as a business expense. The SECURE Act now allows these payments to be offset by the tax credits a small business owner can claim with a new plan. This can be used for up to three years.

Paul Sundin

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