The new year is always a good time to start seriously thinking about your retirement—even if it seems light years away.
Many cosmetic surgeons rely solely on a 401(k) plan for their happily ever after. Others may use a combination of a 401(k) plan and a Profit Sharing Plan, but the annual contribution limits on either a stand-alone 401(k) or a 401(k) with a Profit Sharing Plan are not enough for those who bring in high six-figure salaries.
Enter the Defined Benefit Pension Plan.
This is a type of pension plan in which an employer/sponsor promises a specified monthly benefit on retirement. The amount is based on a formula that takes an employee’s earnings history, years of service, and age into account. It may increase your retirement savings exponentially if you do it right. It is possible for an owner to set up a Defined Benefit Pension Plan for himself or herself. Depending upon the particular situation, this might involve additional complexities such as splitting the primary business into separate entities.
You Do the Math
For 2014, the maximum employee elective deferral for a 401(k) is $17,500 annually, which increases with inflation. Also for a 401(k), there is a catch-up provision that allows for those aged 50 and up to make an additional annual contribution of $5,500 for a total annual of $23,000 for 2014. Most high-income individuals cannot maintain their lifestyle with the savings from a 401(k) plan alone.
Using a combination of a 401(k) plan and a Profit Sharing Plan is a better approach than relying on a 401(k) plan. However, this combined strategy is also limited in the amount of money that can be put away for retirement. The overall limit on annual contributions is $52,000 for 2014 (or $57,500, if you include catch-up annual contributions for 2014).
By contrast, the allowable annual contributions for Defined Benefit Pension Plans are, in general, significantly higher than the limits of the 401(k) and Profit Sharing Plans. It’s not unusual to have annual contributions of $250,000 or more—again, depending on your particular situation.
There are a number of different types of Defined Benefit Pension Plans available with different methods for calculating the allowable contributions. You can put significantly more money away in a Defined Benefit Pension Plan, but it’s not necessarily a one-size-fits-all solution. The plan has to match your particular situation.
In addition, there is technically no limit to how many Defined Benefit Pension Plans you can have. You may be able to stack several Defined Benefit Pension Plans on top of one another. Due to the complicated nature of IRS rules, there are more setup and annual maintenance expenses with a Defined Benefit Pension Plan than with a 401(k)/Profit Sharing Plan. For this to make economic sense, you need to have significantly more free cash flow than what you would put in a 401(k) /Profit Sharing Plan (over $52,000/$57,500).
The best way to evaluate all of your options is to consult a qualified professional who has experience with all of these pension plans. He or she can advise you on where to put your retirement savings so they can grow and you can prosper.
Salvadore R. Salvo offers Securities and Investment Advisory services through Summit Equities Inc, Member FINRA/SIPC, and financial planning services through Summit Equities Inc’s affiliate Summit Financial Resources Inc. He can be reached via PSPeditor@allied360.com.
Disclaimer: Any tax statements contained herein were not intended or written to be used, and cannot be used, for the purpose of avoiding US federal, state, or local tax penalties. If you require specific advice, please consult a tax professional. 20141124-0757
1. IRS Announces 2014 Pension Plan Limitations; Taxpayers May Contribute up to $17,500 to their 401(k) plans in 2014. Available at: http://www.irs.gov/uac/IRS-Announces-2014-Pension-Plan-Limitations;-Taxpayers-May-Contribute-up-to-$17,500-to-their-401(k)-plans-in-2014. Accessed December 1, 2014.
2. Pension Plan Limits for the Tax Year 2014. Available at: http://www.401khelpcenter.com/2014_401k_plan_limits.html#.VE51_fl4prV. Accessed December 1, 2014.