For many professionals and business owners, traditional retirement accounts like a 401k or IRA can feel limiting. Contribution caps often make it hard to save at the level needed to maintain your lifestyle in retirement. That’s where defined benefit plans come in. Instead of focusing on how much you put in each year, these plans are designed around the benefit you’ll eventually receive, making them especially appealing to those looking to accelerate savings.

Though often associated with old-style pensions, defined benefit plans have evolved into modern tools that let high earners set aside far more than standard contribution limits allow. In this article, we’ll explain what a defined benefit plan is, the different types available, and the potential pros and cons so you can decide if it aligns with your financial goals.

📌 Also read: IRA Vs 401k: Main Differences Explained

Types of Defined Benefit Plans

Defined benefit plans generally fall into two categories: traditional pensions and cash balance plans. Both use formulas to determine retirement benefits, but they differ in how the benefit is expressed and how it can be taken.

Pensions

A pension provides a guaranteed monthly payment in retirement. The amount is calculated using a formula that usually considers years of service and average pay. 

✅ In most private-sector plans, the employer funds the benefit. Some public plans may also require employee contributions.

❌ Once you retire, payments are usually in the form of an annuity that continues for life. Some plans also allow a lump-sum distribution, but this depends on plan rules and federal regulations.

Cash Balance Plans

A cash balance plan is a modern form of defined benefit plan. It shows benefits as a “hypothetical account balance,” which grows with two types of credits:

✅ Pay credits (a percentage of annual compensation).
✅ Interest credits (based on either a fixed rate or an approved market rate).

At retirement, participants may choose between a lifetime annuity or, if the plan permits, a lump sum. That lump sum can often be rolled over tax-free into an IRA or another eligible plan.

Why Business Owners Use Cash Balance Plans

For high earners, cash balance plans can allow much larger contributions than a 401k or IRA.

📌 Also read: 401k limit increases to $23,500 for 2025, IRA limit remains $7,000 | IRS

Instead of one fixed dollar cap, contributions to a cash balance plan are based on actuarial calculations tied to your age, pay, and years until retirement. This makes it possible for some business owners to contribute well above $100,000 annually.

Contribution Caps in Retirement

The IRS sets an overall cap on benefits, not contributions. For 2025, the maximum annual pension benefit allowed under section 415(b) is $280,000, adjusted for retirement age. The lump-sum value of that benefit depends on interest rates and actuarial assumptions at the time of retirement.

📝 Note: Both pensions and cash balance plans guarantee a benefit. Traditional pensions provide predictable monthly income, while cash balance plans offer higher potential contributions and more flexibility, which is why they are often favored by business owners and professionals with higher earnings.

Defined Benefit Plan vs Defined Contribution Plan

Understanding the difference between defined benefit and defined contribution plans helps clarify how retirement savings grow and what guarantees participants receive.

Defined Contribution Plan

A defined contribution plan, such as a 401k, gives each participant an individual account. 

✅ Employees usually contribute a portion of their salary, and employers may offer matching contributions (often around 3% to 5% of pay). Participants choose how to invest their accounts,  and balances grow based on investment performance.

❌ The final retirement income is not guaranteed and depends on contributions, investment returns, and market fluctuations.

Defined Benefit Plan

Defined benefit plans are typically funded by the employer, although some plans may allow or require employee contributions. The retirement benefit is pre-determined based on a formula rather than investment performance.

Instead of individual accounts, assets are pooled in a trust. The plan applies a pay credit (a percentage of compensation) and an interest credit (fixed or index-linked, often around 4%–5%) to calculate the benefit. This guarantees a predictable retirement income, independent of market performance.

📝 Note: Defined contribution plans focus on personal savings and investment growth, while defined benefit plans promise a specific retirement benefit and rely on pooled assets managed by the plan.

Pros and Cons of Defined Benefit Plans

Pros

✅ Dependable Income
Participants are guaranteed a retirement benefit. Pensions provide a monthly paycheck for life, while cash balance plans may allow annuity payments or a lump sum, which can often be rolled over into an IRA.

✅ Not Tied to Investment Performance
Employees don’t manage the investments themselves. Instead, the plan promises a fixed or variable interest credit, and the employer assumes the investment risk to fund the benefits.

✅ Potentially Large Tax Deductions
Contributions are made with pre-tax income, reducing taxable income. Cash balance plans often allow contributions of $100,000 – $300,000 per year, much higher than typical defined contribution plans.

Cons

❌ No Investment Control

Participants cannot choose how their contributions are invested, unlike in a 401k or IRA.

❌ Limited Growth Potential

The benefit is pre-determined. Participants cannot increase their retirement payouts by making additional contributions or taking higher investment risks.

❌ Higher Cost and Complexity for Employers

Defined benefit plans can be expensive and complex to establish and maintain. These costs are often balanced by significant tax advantages, but the administrative burden is higher than for defined contribution plans.

Does a Defined Benefit Plan Make Sense for You?

Defined benefit plans, especially cash balance plans, may be worth considering for high-earning professionals and business owners. 

✅ They can allow contributions well above standard 401k or IRA limits, sometimes exceeding $100,000 annually in pre-tax income.

❌ For most employees with average or lower incomes, a defined benefit plan may be less practical. Traditional pensions are less common today, and the complexity and cost of setting up a plan may outweigh the benefits if contributions remain relatively low.

📌 If you’re interested in cash balance plans, click here to learn more.

---

Disclaimer:

The Carry Learning Center is operated by The Vibes Company Inc. (“Vibes”) and contains generalized educational content about personal finance topics. While Vibes provides educational content and technology services, all investment advisory services discussed on this website are provided exclusively through its wholly-owned subsidiary, Carry Advisors LLC (“Carry Advisors”), an SEC registered investment adviser. The information contained on the Carry Learning Center should not be construed as personalized investment advice and should not be considered as a solicitation to buy or sell any security or engage in a particular investment, accounting, tax or legal strategy. Vibes is not providing tax, legal, accounting, or investment advice. You should consult with qualified tax, legal, accounting, and investment professionals regarding your specific situation.

The accounts, strategies and/or investments discussed in this material may not be suitable for all investors. All investments involve the risk of loss, and past performance does not guarantee future results. Investment growth or profit is never a guarantee. All statements and opinions included on the Carry Learning Center are intended to be current as of the date of publication but are subject to change without notice.

To access investment advisory services through Carry Advisors, you must be a client of Vibes on an eligible membership plan. For more information about Carry Advisors’ investment advisory services, please see our Form ADV Part 2A brochure and Form CRS or through the SEC’s website at www.adviserinfo.sec.gov.