Cash Balance Plan
A Cash Balance Plan is a type of IRS-qualified defined benefit pension plan in which each participant has a hypothetical individual account that grows at a rate specified by the plan document — typically a fixed interest crediting rate plus an annual pay credit — rather than being tied directly to market returns. At retirement, the participant receives the accumulated hypothetical account balance either as a lump sum or as an annuity, and the employer bears the investment risk of funding the promised benefits.
Cash balance plans occupy a unique position in the U.S. retirement plan landscape: they are legally defined benefit plans but present participants with something that looks like a defined contribution account. The plan document specifies two parameters for each participant: the pay credit (typically a percentage of annual compensation added to the hypothetical account each year) and the interest crediting rate (the rate at which the hypothetical account grows, which can be a fixed rate such as 5%, a variable rate tied to the 30-year Treasury rate, or in some cases the actual rate of return on plan assets, subject to statutory floors).
The contribution limits for cash balance plans are substantially higher than for 401(k) plans or SEP-IRAs, which makes them particularly attractive for high-income, older business owners seeking to accelerate tax-deferred savings. For 2025, the maximum annual benefit from a defined benefit plan is $280,000 (indexed), and actuarial funding calculations often allow contributions well in excess of $100,000 per year for an owner in their 50s or 60s. A 55-year-old business owner could potentially contribute $200,000 or more annually to a cash balance plan on a tax-deductible basis, far exceeding the $70,000 combined limit of a 401(k)/profit-sharing plan.
Cash balance plans require actuarial oversight. The plan sponsor must hire an enrolled actuary to certify that contributions are sufficient to meet projected benefit obligations, and the plan is subject to PBGC insurance premiums if the employer has at least 25 employees, though most small-business cash balance plans are exempt from PBGC coverage. The IRS requires that the plan document satisfy complex nondiscrimination testing rules, meaning that if the plan covers rank-and-file employees as well as owners, the benefit formula must satisfy coverage and nondiscrimination requirements under IRC Section 401(a)(4) and related regulations.
At retirement or termination, the participant is entitled to their hypothetical account balance. The plan sponsor must fund this balance regardless of how the actual plan assets have performed. If investment returns fall short of the promised interest crediting rate, the employer must make additional contributions to close the gap — this is the core risk transfer that distinguishes a defined benefit plan from a defined contribution plan like a 401(k). For small, owner-only cash balance plans, this risk is borne entirely by the business owner who is also the sole participant.
Cash balance plans are frequently combined with 401(k) profit-sharing plans in what practitioners call a paired plan structure. The owner maximizes deferrals and profit-sharing allocations in the 401(k)/profit-sharing plan and simultaneously funds a cash balance plan to absorb additional pre-tax contributions above the 401(k) ceiling. This combination can allow a high-income professional or business owner to shelter several hundred thousand dollars of income annually from federal and state income taxes.