While many small businesses have, over the past couple of years, been adopting 401(k) plans, some say they would actually be better served by considering the retirement plan options that the defined benefit (DB) space has to offer, not least because of the impending increases to income taxes that are set to happen in most states at the end of this year.
Income taxes for both individuals and corporations will be increasing by nearly 40% once the tax cuts introduced by former president George Bush expire, predicts James Podleski, president of Washington-based National Pension Partners. For many small businesses that are already suffering from the economic downturn, things are going to get quite tough, so it's in their best interest to look toward strategies that can help them save taxes, he says.
"There's been a lot of misinformation about defined benefit pension plans in general," Podleski says. "People think that once they choose one, they are stuck with it forever, but that's not true. There is a lot of flexibility in pension plans, and a pension plan is the only qualified retirement plan that will allow a business owner to contribute and deduct more than $49,000 for 2010."
While small businesses have been exploring the DB space and there has been a noticeable uptick in the number of pension plans they're implementing, many people are still not aware of the advantages that these plans offer, Podleski says. Advisors working with small business owners need to be better informed about these DB plans so that they can help figure out whether a DB or a DC plan is a better fit for a particular business, he says, because there can be no one-size-fits all kind of approach, especially in fiscally tight times.
Podleski believes that most small businesses decide to offer 401(k) plans to their employees simply because they are so ubiquitous now and have been mass marketed. In reality, though, a 401(k) isn't always the best option for many small businesses, because they can prove to be very costly. Lack of employee enrollment is an issue, and "what many people don't know is that in a 401(k) plan, Social Security and Medicare taxes are withdrawn from deferred amounts, which makes them more expensive," Podleski says. "But individuals can save up to 15.3% in additional Social Security and Medicare taxes by electing to use a pension or profit sharing plan as opposed to a 401(k)."
According to Thomas Foster, spokesperson for insurance giant The Hartford's corporate retirement plan business, DC plans have completely overshadowed DB plans, even if some of the latter might be a better bet from a tax point of view for a smaller business.
Cash Balance Plans Revisited
