The High-Earner Tax Break That Democrats Forgot

Cash Balance plan ignorance is pervasive by most writers and this article is a simpleton view to tax the so-called rich. First, most cash balance plans have been implemented since 2002 when EGTTRA was signed into law in 2001 under President Bush. The last stats I recall viewing showed over 90% of these plans have been installed by firms with less than 100 employees and 95% for those with fewer than 50. Most of the adoption has occurred in personal service businesses, with medical and dental practices, and law firms leading the way. At a minimum, helping small employers save for retirement requires passing many non-discrimination tests, as both the 401(k) and the cash balance plans are separate plans, however, they are treated as one for testing as per IRS regs, and are often referred to as combo plans. What cash balance plan formation truly shows is that employers are generous and willing to spend extra on their employees if they benefit also. In the typical combo plan arrangement, employers spend 6-10% of pay on all non-highly compensated employees (NHCEs). The range is totally a function of the demographics of that firm’s census population data. The older the work force, the more likely it is near 10%. The younger the work force, it will be closer to 6%. These plans typically cancel any 401(k) match for the simple reason that the match does not count in testing. If Congress outlaws this technique above, then NHCEs lose out because cash balance funding goes away. In a stand alone 401(k) plan, with the profit-sharing feature using cross-testing to determine plan funding and testing, plan sponsors spend as little as 4.35% to 5% to pass testing while allowing owners to max out the defined contribution limits. Do you really want to see NHCEs get from 1.50% of salary to up to 5.50% of salary less in funding? Most of these plan sponsors are taxed as pass-through entities too, whether S-Corps or LLCs. What this shows is that the plan sponsors know they are reducing taxes from as high as 37% federal and over 13% state in California to just 37% in states with no income tax like Florida and Texas. One last piece of information for you to be aware of: these tax savings are not permanent because all of the money is taxed at ordinary income when distributed in retirement from their IRAs. So it is only a tax deferral mechanism at best. If you want to soak the rich, keep the SALT deduction limit and attack every attempt to circumvent it. Also, go after the carried interest capital gain treatment. Why not eliminate incentive stock option plans in public companies and deferred compensation plans as well? If you want to soak regular Americans, further reduce the mortgage interest limits down to $500,000. In the interest of full disclosure, I have installed north of 100 of these combo plans since 2002 and can attest how important they are to regular NHCEs, especially when we terminate the plan and they see balances of $10,000 to $50,000 rolled over into their 401(k) plan or IRA rollover. Also be aware than any plan with more than 25 employees must pay premiums into the extortion racket PBGC to keep it afloat! In closing, a partner in a medical firm sponsoring these plans will roll over no more than $3,000,000 from the cash balance plan based on IRS limits and I have not seen any 401(k) balance over $2,500,000 at age 62 when many retire. So, round it up to 3,000,000 and a plan sponsor may have $6,000,000 in retirement accounts to draw down at 4% or $120,000/yr or $$150,000 if using 5% over the remaining life expectancies of the family. This is clearly not the rich making out like bandits. Lastly, law firm and medical firm partners generally have no equity in their business as the notion of selling to junior partners vanished decades ago. There are exceptions. The only methods to accumulate wealth is with these plans and also owning the commercial real estate and leasing it to your business at fair market value rent rates.

Why does the life insurance industry get a total pass in these discussions?How much money is sitting tax free in annuity and life insurance contracts?

In response to "khauck" - it all depends on how you look at it. If you assume that no one should have to pay any federal tax ever, then you're right. But let's assume you believe that there is SOME role for the federal government to play, and that role (whatever it may be) costs money. The money must come from you, the taxpayer. Once the money is received by the government, it is no longer your money, it is the government's money. If the government then decides to spend some of that money to pay you for putting money into your retirement account, then indeed that can be described as "spending", the same as if they decided to spend that money on an F-15 fighter plane or someone's food stamps. No different.

The line "the Federal government spends more money on tax breaks for retirement savings" reflects the thinking that is sending our country off a fiscal cliff. IT'S NOT THE FEDERAL GOVERNMENT'S MONEY. It's OUR money that we EARN.