Why Defined Benefit Plans Could Be the Ideal Choice for Your Small Business

Small business owners often face tough decisions when choosing retirement plans. Defined benefit plans may seem complex or costly at first glance, but they offer unique advantages that can make them a smart choice for some small businesses. Understanding how these plans work and their benefits can help you decide if they fit your company’s goals and employee needs.

What Is a Defined Benefit Plan?

A defined benefit plan guarantees employees a specific retirement benefit based on factors like salary history and years of service. Unlike defined contribution plans, where contributions vary, and retirement income depends on investment performance, defined benefit plans promise a fixed payout. This means employees know what to expect in retirement, providing financial security.

For small businesses, this structure can be appealing because it helps attract and retain skilled workers by offering a reliable retirement income. It also allows business owners to plan their contributions based on actuarial calculations, which can be adjusted annually.

Advantages for Small Businesses

Defined benefit plans offer several benefits that can outweigh their complexities:

• Predictable Retirement Income

Employees receive a steady income after retirement, which can improve job satisfaction and loyalty.

• Higher Contribution Limits

Compared to other plans, defined benefit plans allow for larger tax-deductible contributions, especially beneficial for older owners or employees close to retirement.

• Attract and Retain Talent

Offering a guaranteed pension can differentiate your business in a competitive job market.

• Tax Advantages

Contributions reduce taxable income, and the plan’s earnings grow tax-deferred until benefits are paid out.

• Customizable Benefits

Plans can be tailored to fit your business size and financial situation, allowing flexibility in funding.

Considerations Before Choosing a Defined Benefit Plan

While the benefits are clear, defined benefit plans require careful management:

• Cost and Complexity

These plans involve actuarial calculations and require annual funding to meet promised benefits. Hiring a pension consultant or actuary is often necessary.

• Long-Term Commitment

Businesses must commit to funding the plan consistently, which can be challenging during financial downturns.

• Regulatory Requirements

Defined benefit plans are subject to strict rules and reporting, which can increase administrative work.

Imagine a small consulting firm with 10 employees, including the owner, aged 55. The owner wants to maximize retirement savings quickly. By setting up a defined benefit plan, the firm can contribute significantly more than a 401(k) plan allows, boosting the owner’s retirement fund while offering employees a valuable benefit. This strategy helps the owner save aggressively and keeps employees motivated. For more information, contact The Center for Financial, Legal, and Tax Planning, Inc. at (618) 997-3436.