Richard T. King Associates, Inc.

Defined benefit plan is an under-used retirement planning option that is well suited to the needs of individuals nearing retirement age that did not begin saving when they were younger. The plan lets the individual set aside more tax-deductible dollars each year than other plans allow, helping accumulate a large stake for future financial security, fully guaranteed.

In recent years, defined benefit plans have fallen out of favor, giving way to 401(k) and "cash balance" plans, which do not always benefit individuals nearing retirement.

Because most defined benefit plans require an actuary to determine contributions and to certify that the plan’s contributions and earnings will meet promised benefits, many small-business owners have come to view them as overly complicated. Despite their complexity, defined benefit plans still offer significant advantages.

• The individual chooses how much to set aside.
• The plan helps obtain the maximum tax deduction possible.
• The plan helps accumulate significant assets for retirement in a short a period of time.

One kind of defined benefit plan, the 412(i)—is especially useful to small-business owners. Named after the IRC section that describes the elements necessary to qualify for the tax advantages, a 412(i) plan allows accumulation of

a large retirement balance, even if the plan is established late in life. A 412(i) also allows larger contributions than a 401(k) or other retirement plan.

Example: A business owner, age 55, who has not accumulated as much as she would like for retirement. If she started a 401 (k) plan, she would be limited to annual deferrals of $10,500. A savings incentive match plan for employees (SIMPLE) would be limited to $6,000, and an individual retirement account (IRA) would limit deferrals to only $2,000.

A 412 (i) plan, by contrast, would permit the business owner to deduct 100% of her pay. Because the funding of a 412(i) plan is guaranteed by an insurance company, contributions are not subject to investment risk.

In an alternate scenario, assume the business owner, planning to retire at age 65, makes $60,000 a year and contributes that amount as a premium into a defined benefit plan. If she contributes $60,000 per year for 10 years at 8% into the plan, she will accumulate $869,194 –guaranteed-- by retirement.

At retirement, 412(i) plan are portable, allowing account holders to roll over the accumulated funds to the IRA program of their choice. In the example, assuming a retirement period of 30 years with an investment return under the IRA of 8%, the business owner could count on an annual income of more than $70,000. In addition, the 412(i) plan can provide a survivor benefit to protect her spouse or children if she dies prior to retirement. This survivor benefit can also be set up to provide a guaranteed lifetime income for her spouse or children.

The 412(I) deductions can be maximized up to $200,000 for some individuals and accelerated for early retirement. In many situations, $1 million can be accumulated over 10 years on a guaranteed basis.

A unique feature of defined benefit plans is the ability to use the three highest years of prior earned compensation to generate the benefit and deduction amounts. Therefore, it is possible to wipe out 100% of current taxable compensation and instead put it in the plan.

Another consideration is that, as of January 1, 2000, business owners and professionals can abandon defined contribution plans that set maximum allocations of $30,000 and receive deductions that are three to four times the old plan amount. This change came from new pension legislation that increased flexibility and will encourage adoption of defined benefit plans.