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Profesional Services

Plan Types

Defined Benefit Plans :

• A Defined Benefit Plan allows larger deductions for the business owner. Through the use of sophisticated design techniques, more of the plan contribution can be geared toward the principal of a business.

• Unlike a corporate Defined Benefit Plan to which an employer can make deductible contributions in excess of an employee’s compensation, an employer’s deductible contribution on behalf of a self-employed individual is limited to the self-employed individual’s earned income for the year (computed after the deduction for one-half of the individual’s self-employment taxes, but without regard to the deduction for employer contributions made on the individual’s behalf).

• In a Defined Benefit Plan, the actuary first determines the amount needed at retirement to pay the business owner’s annual benefit as set by a formula in the Plan. The actuary then determines the amount that must be contributed to the Plan each year to reach the amount needed at retirement. The actuary uses various factors to compute the annual contribution, including an interest factor (the rate of return on plan investments). This interest factor is usually conservative, even when market rates are greater.

• Investment gains and losses affect the amount of each year’s contribution. Thus, if the interest assumption is 7 percent and the investment return is 11 percent, the investment gain reduces the business owner’s future contributions. If the investment return is only 4 percent, the investment loss increases the subsequent contributions. Whether or not the interest assumption holds true, the annual adjustment in required contributions does not affect the final result—the amount in the Plan at retirement.

• If an employee participates in both a Defined Benefit Plan and a Defined Contribution Plan that are maintained by the same employer, a special formula is used to determine the combined maximum limit on benefits and contributions. The sum of the Defined Benefit Plan fraction and the Defined Contribution Plan fraction cannot exceed 1.0.

• Under a Defined Benefit Plan, the limitation is placed on the annual benefit payable, not the annual contribution necessary to fund the benefit. The maximum annual benefit that may be provided to a participating business owner under a Defined Benefit Plan is the lesser of
(1) $115,641 (with adjustments for inflation), or
(2) 100 percent of the business owner’s average compensation for the highest three consecutive years.