Unlocking the Benefits: Life Insurance in Cash Balance Plans

Maximizing Retirement Planning, Tax Efficiency, and Business Succession

In recent years, cash balance plans, which blend elements of defined benefit pension and profit-sharing plans, have emerged as a valuable retirement planning tool.  And one of its most valuable features is the ability to use life insurance in the plan.  Let’s dive into how life insurance operates within cash balance plans and explore its benefits for both participants and their employers.

Understanding Life Insurance in Cash Balance Plans

Life insurance in a cash balance plan makes sense for two reasons.  The first is that the policy is an asset of the plan.  As a result, the policy’s cash value is part of the participant’s hypothetical account and is used to provide the promised benefit at retirement.  The second is that the policy’s death benefit is available to complete the plan.  If a participant were to die before normal retirement age, their accrued benefit would not likely be sufficient to support their family.  Life insurance in a cash balance plan protects the participant’s family from the participant’s premature death by providing an additional benefit.  In order for life insurance in a cash balance plan to make sense, it needs to be a cash value insurance product.  Typically, a cash balance plan will use a whole life policy or a universal life insurance policy with a guaranteed interest rate.

When life insurance is used in a cash balance plan, the plan is the owner of the policy.  The participant is the insured.  Life insurance in a qualified retirement plan also maximizes an employer’s contributions, as the premiums are paid from the assets of the plan.

However, there are limits to the amount of insurance that can be put into a qualified retirement plan.  The primary purpose of a qualified retirement plan is to provide a stream of income at retirement.  A qualified retirement plan may provide other types of benefits, like a death benefit, as long as they are incidental to the primary purpose of the plan.  There are rules that govern how much a plan can spend on insurance premiums and limit the amount of the death benefit that the plan can provide.

Tax Implications and Considerations

One of the key advantages of cash balance plans is their tax efficiency for both employers and employees. Employer contributions are tax-deductible.  In addition, employees are able to defer taxes on contributions until retirement.

Because premiums are paid from a plan’s assets, they are also tax-deductible to the employer.  However, participants will have to recognize the economic benefit of insurance protection as taxable income.  This amount is generally calculated by the plan’s third-party administrator or the insurance company providing the policy.

Navigating Pre-Retirement Challenges

While life insurance in a cash balance plan provides a huge benefit, especially in the event of a participant’s premature death, there may be tax implications. Only the net amount at risk, or the difference between the policy’s face amount and the cash value, will be received income tax fee.  The amount equal to the cash value is considered a retirement benefit and may be subject to taxation.

Nevertheless, life insurance and a qualified retirement plan can serve as a crucial component of family retirement planning, offering financial support to beneficiaries and ensuring continuity in business operations.

Identifying Ideal Candidates for Cash Balance Plans

Cash balance plans are well-suited for various entities, including medical or dental groups, professional firms, sole proprietors, and small to mid-sized businesses. Life insurance can fit into almost any cash balance plan. Employers willing to commit to minimum contribution requirements can leverage these plans to enhance retirement benefits for their employees.

Pros and Cons of Life Insurance in Qualified Plans

While life insurance in cash balance plans offers numerous advantages such as cost-effective coverage, streamlined administration, and tax efficiency, there are also drawbacks to consider. These include potential tax implications upon retirement or job changes, reduction of other investment assets within the plan, and estate tax considerations.

Conclusion: Securing the Future with Life Insurance in Cash Balance Plans

Integrating life insurance into cash balance plans presents a wealth of planning opportunities for participants and employers alike. From enhancing retirement savings to protecting against premature death, this strategic approach offers a holistic solution to long-term financial security.

How RMC Group Can Help

An RMC Group Retirement Professional can help you to significantly streamline the process of establishing a cash balance plan. We ensure that employers and employees alike receive tailored solutions to meet their retirement needs. By leveraging the expertise of an RMC Professional, clients gain access to comprehensive information and guidance, enabling them to make informed decisions about their financial future.

From initial consultations to proposing personalized plans and ultimately establishing a new retirement plan, RMC serves as an invaluable partner every step of the way. We can analyze data, offer strategic advice, and navigate complex regulations empowering employers to embark on their retirement journey with confidence and peace of mind, knowing that their financial well-being is in capable hands.

To explore how a cash balance plan with life insurance can benefit your organization, connect with one of our Retirement Professionals today at [email protected] or call 239-298-8210.

For more insights on cash balance plans, visit our knowledge base for articles and webinar recordings.