What are the potential pitfalls of a defined benefit pension plan to a small business owner?
Restricted Lump Sum When the value of plan assets falls below 110% of current plan liabilities, the defined benefit pension plan (DB plan) is generally prohibited from paying lump sum benefits to certain highly paid employees. In most companies, and especially professional service firms, inability to pay lump sums when a partner leaves the firm is very undesirable. A number of steps can be taken to avoid this unfortunate situation or to minimize the disruption in benefit payments. Excise Tax on Surplus Assets When a small business owner retires, the DB plan is frequently terminated. Any plan assets left after paying benefits are generally subject to both ordinary income tax and a 50% excise tax. In other words, almost all surplus assets are paid to the IRS in the form of taxes — a situation to be avoided! Careful planning with your actuary, especially close to retirement, can usually prevent this situation. Double Taxation of Contributions For certain small business owners who sponsor
