How To: Millennials Saving Thousands by Using a Defined Benefit Plan

Do Millenials know what a Defined Benefit Plan is?  How often do Millennials think about their retirement plans? Retiring is like that high school crush you never quite figured out. Intriguing yet perplexing, offering promises of golden years filled with leisure, yet fraught with the complexities of financial planning. As millennial small business owners, we’re steering the ship of our enterprises through the choppy waters of the present, but it’s crucial to keep an eye on the horizon. And by the horizon, I mean retirement. Yes, that seemingly distant future where we hope to reap the rewards of our hard labor. But as we chart this course, weighing the anchor of retirement plans with a balanced perspective is essential. Let’s dive into the pros and cons, with a dash of wit, as befits our generation that grew up on a diet of memes and existential humor.

The Good #1: Defined Benefit Plans are Tax Advantages Galore

A Defined Benefit Plan is a Millennial cheat code for taxes. First up, let’s talk about the wonderful world of tax breaks. Enrolling in any retirement plan can be like finding a cheat code in the tax game. Contributions to plans like 401(k)s, SIMPLE Plans, or IRAs can lower your taxable income in the year of the contribution.  This means Uncle Sam gets a lot less and you keep a lot more.

An added benefit is that your investments will grow tax-free until you decide to cash out and buy that dream villa in Thailand.

The Good #2: Attract and Retain Top Talent with your Defined Benefit Plan

I considered this for a long time.  Due to the cost, Defined Benefit Plans are usually used by family-run, sole proprietors, and husband/wife businesses.

If you have the kind of business that needs technically adept employees (in whatever niche you are working), then it might be more important to your business’s success to have continuity with your employees.  If that’s the case, offering a Defined Benefit Plan to your list of employee benefits may be the cherry on your employment sundae.

The Good #3: Compound Interest, Baby!

I love compound interest.  Every investor should.  Curiously enough, this is a concept that confuses folks.  If you aren’t confused, skip ahead.  If you are, let’s take a look at how it helps.

We learned that contributions are tax deductible.  We also learned that appreciation and income from your investments are tax-free at the time it is earned.

Compound interest is free money.

Let’s say you contributed $100,000 to your DBP on January 1, 2020.  Annual earnings on your investments earns 5% per year.

Your balance on January 1, 2020 is $100,000

Your January 1, 2021 balance is $105,000 ($100k x 5% = $5k, $100k + 5k = $105k)

Your balance on January 1, 2022 is $110,250

Why isn’t it another $5k?  Because you are also earning income on the income you earned the previous year.  $5,000 x 5% = $250.

That’s compounding in a nutshell.

The Good #4: It’s a Motivation Booster

I’ve had clients tell me this.  At first, I didn’t think much of it, but as I aged I started to get it.

Having a retirement plan in place is like having a tangible representation of your dreams and aspirations for the future. It’s a constant reminder that you’re not just working for the weekend (something all too familiar to those of us who are self-employed).

You’re building towards something bigger, something that’s waiting for you down the road. This can be a powerful motivator, driving you to push through the tough times and aim for the stars—or at least a comfortable recliner by the beach.

The Bad #1: The Complexity Conundrum

Now, let’s address the elephant in the room: retirement plans can be as complicated.  If this isn’t your world, it can feel like you’re playing a game you don’t know the rules to.

A Defined Benefit Plan is one of the most complex retirement plans available, and any Millennial considering one should really do a lot of research.

With terms like “vesting schedules,” “contribution limits,” and “required minimum distributions,” it’s enough to make your head spin. And this doesn’t begin to illustrate the administrative duties required.  And did you know your retirement plan will now have its very own tax return?

For small business owners already juggling a million tasks, delving into the intricacies of retirement plans can feel like learning a new language. But fear not, for the internet (and financial advisors) exist.

Make sure your financial advisor is aware of the administrative requirements and that they can handle them.

The Bad #2: The Cost of Commitment Can Be Steep

Offering a retirement plan isn’t just a verbal promise.  With it comes financial commitments and administrative responsibilities that will be around for as long as you offer the plan.

There are setup fees, annual fees, and sometimes, matching contributions to consider. It’s akin to adopting a pet; it’s rewarding, but it requires ongoing care and attention (and yes, money). 

For small businesses operating on tight margins, the costs may not be worth the outcome.  I love these plans for Sole Proprietors and Husbands/Wife teams.  When you start including employees, the contribution and admin costs will go up exponentially.

The Bad #3: The Lock-In Effect

This is the issue where I get the biggest pushback.  I get it. You grew up in a different world than my old ass.

A Millennial contributing to a Defined Benefit Plan will no doubt feel constrianed. The “lock-in” effect feels different to different people.

In essence, the “lock-in effect” means your retirement savings are earmarked for retirement, so access is a little more complicated.

How complicated?  Well, not really.  If you need to access the funds you may have an early withdrawal penalty of 10% (and whatever your state may charge).

Your retirement savings are not like a regular savings account where you can dip in for a spontaneous trip to Tahiti or that Porsche 992 you have your eye on. These funds are meant for your retirement years, and accessing them before the IRS retirement date can come with penalties and taxes (you get a deduction for the contribution, you pay tax when you withdraw). It requires discipline to keep these funds untouched, which can be challenging when life throws a curveball (or several).

…And Finally: Millennials and Defined Benefit Plans

As a millennial small business owner, you’re not just planning for the next quarter; you need to be looking decades ahead. Integrating a retirement plan into your business and financial strategy is a move done sooner rather than later, one that also promises massive tax advantages, especially for the Sole Proprietor.

Yeah, there are complexities, some big costs, and commitments to navigate.  If you are looking for a path to a comfortable and secure retirement, then think of it like planting a tree. The best time to plant it was yesterday, and the second-best time is now.

So, let’s embrace the challenge with the same enthusiasm we apply to all aspects of our lives, from mastering the latest social media trends to prioritizing sustainability. After all, retirement planning isn’t just about securing our future; it’s about building a legacy that reflects our values and aspirations. And who knows? By the time we’re ready to hang up our entrepreneurial hats, we might have figured out the plot of “Inception.”