FAQs
Entity Structures
How do I calculate my net business income?
Sole proprietors: Your net profit is shown on Line 31 of Schedule C, which is filed with your personal tax return.
S-Corps and C-Corps: Net profit is calculated after deducting your W-2 salary. Example: If the business shows $300,000 profit before paying you $100,000 in wages, net profit is $200,000.
Can I set up a plan if I’m the only employee?
Yes. One-person “owner-only” plans are allowed as long as you have earned income subject to payroll taxes (Schedule C profit or W-2 wages). There are no age limits, but older participants are allowed larger contributions.
How are S-Corporations taxed?
S-Corps are pass-through entities, meaning profits flow through to shareholders and are taxed at their individual tax rates (10%–37%). The main advantage: no double taxation. However, shareholders must expense business costs through the S-Corp; they cannot deduct them personally.
How are C-Corporations taxed?
C-Corps are separate taxable entities and pay a flat 21% corporate tax rate. Profits distributed as dividends are taxed again at the shareholder level, creating double taxation. C-Corps file Form 1120 annually.
Do I need to run payroll to make retirement plan contributions?
It depends on your entity type:
S-Corps and C-Corps: You must be on payroll and receive a W-2.
Sole proprietors and partners: You should not run payroll for yourself. Your business profit or partnership income (subject to self-employment tax) counts as earned income.
Payroll requirements follow entity structure, so check with your CPA if unsure.
Does S-Corp or C-Corp profit affect my cash balance contribution?
No. Cash balance contributions are based only on W-2 compensation, not business profit.
How are partnerships taxed?
Partnerships are pass-through entities. The partnership files Form 1065, and each partner receives a Schedule K-1 showing their share of income or losses. Partners pay tax on this income individually and should plan ahead by estimating taxes owed. General partners have personal liability; limited partners have liability protection similar to LLCs.
Where do I deduct cash balance plan contributions on my tax return?
It depends on your business structure:
Schedule C (sole proprietor / single-member LLC)
Form 1065 (partnership)
Form 1120-S (S-Corp)
Form 1120 (C-Corp)
Do I deduct contributions in the year they’re made or the year they apply to?
Generally, you deduct contributions in the year you pay them. You may apply them to the prior year if:
The contribution is made by your tax filing deadline (with extensions)
It is accrued on that prior-year return
The plan treats it as if received on the last day of that year
You notify the administrator or deduct it on the prior-year return
I didn’t run payroll last year. Can I issue a late W-2 and still contribute?
Possibly—but usually not advisable.
Late payroll triggers large penalties and interest, often exceeding any tax benefit. Before running late payroll, talk with your CPA. In many cases, it’s better to start the plan the following year.
How do I add my spouse to the plan?
Your spouse must be a legitimate employee receiving W-2 wages subject to Social Security and Medicare taxes. Their pay must be reasonable for the work performed. Plans can often be amended to allow spouse entry during the first year.
If your goal is to increase total household contributions and reduce taxable income, adding a spouse can be very effective.
What is “reasonable compensation”?
The IRS requires S-Corp owners to pay themselves a wage that reflects the value of the work they perform—what it would cost to hire someone else to do the job. A higher wage may be needed to support higher cash balance plan contributions. Discuss this with your CPA.
Which W-2 box is used for cash balance plan compensation?
Use Box 5 (Medicare wages), not Box 1. Box 1 is reduced by 401(k) deferrals, so it does not reflect true earned income.
Where should 401(k) deferrals appear on the W-2?
Shown in Box 12, code D
Profit-sharing contributions are not shown on the W-2
Box 13 (“Retirement Plan”) should be checked
I’m a sole proprietor and had no profit this year. Can I still deduct a required contribution?
No. If you have no business profit, you generally cannot deduct plan contributions. Mandatory contributions in a zero-profit year are rare, but if they occur, they are not tax-deductible.
I’m an S-Corp but didn’t issue myself a W-2. Can I still participate?
To participate, you must be a W-2 employee. Options:
Issue a late W-2 (with penalties and interest).
Skip the plan for the current year and start fresh next year.
In limited cases, “nominate” income as sole proprietor income—requires CPA guidance.
Investments
What investments are allowed?
You have broad flexibility—stocks, bonds, mutual funds, insurance products, CDs, etc.
Should I invest cash balance plan assets in the stock market?
You can, but it comes with consequences:
Cash balance plans are designed for steady, conservative returns.
Large losses increase required contributions; large gains reduce them.
Because of this volatility, most owners use conservative investments inside the plan.
Higher-risk investments are generally better suited for IRAs or 401(k)s.
Contributions each year fall within a range, and that range shifts based on investment performance.
What is the interest crediting rate?
Your plan assumes a fixed annual return—typically 4%. The actuary uses this rate to determine contribution levels.
Returns above 4% lower future contribution requirements.
Returns below 4% raise future contribution requirements.
To keep contributions predictable, conservative investing is recommended.
Why you want to avoid large gains inside a cash balance plan
Large gains dramatically reduce your future contribution needs and may even eliminate contributions for a few years.
Why?
The actuary assumes a steady 4% return. Huge gains push the plan far ahead of its funding target.
Be cautious with aggressive investments in a cash balance plan—big losses can create very large mandatory contributions the following year. Most clients prefer consistency and use conservative investments (CDs, insurance products, money markets, etc.) inside the plan, reserving higher-risk investing for IRAs or 401(k)s.
You may also want to revisit your W-2 compensation to increase your maximum benefit.
