CASE STUDY: When a “Successful” Plan Becomes a Tax Disaster

Introduction

This is not a hypothetical example.

This is a real-life cash balance plan, and every data point in this analysis was sourced directly from the filed Form 5500s.

The plan sponsor, a successful dentist, did everything most advisors could consider “right.” He built a profitable practice, implemented a cash balance plan to maximize tax deferral, and ultimately sold his practice to a DSO. After the sale, he transitioned into a W-2 employee role, and like many in that position, his objective was straightforward:

Terminate the cash balance plan and roll the proceeds into an IRA.

But that’s where things broke down.

 

The Problem He Didn’t See Coming

At the time of intended termination, the plan was severely overfunded.

That created a hard stop.

Instead of a clean rollover, the dentist was forced into two unattractive options:

Option 1: Forced Reversion (Worst Case)

• Excess assets revert back to the old LLC
• Subject to:
  • 50% excise tax
  • Ordinary income tax on the excess

This can easily destroy 60%–70% of the excess capital

Option 2: Wait It Out

• Leave the plan in place
• Allow liabilities to “catch up” to assets over time

This can take years, with:

• No new deductions
• Administrative costs continuing
• Capital trapped inside the plan

 

How This Happened

What makes this case particularly important is that nothing unusual occurred:

• No exotic investments
• No aggressive assumptions
• No compliance failures

And yet the outcome was catastrophic.

 

The Real Diagnosis

This failure was not caused by the market.

It was caused by design ignorance across every party involved.

• Actuary: Failed to recognize and correct structural overfunding risk
• CPA: Focused on deductions, not funding trajectory
• Investment Manager: Managed assets without regard to liability structure
• Plan Sponsor: Relied on professionals who did not explain the risks

 

The Missing Piece: Market Return Crediting (MRC)

This entire situation was avoidable.

A properly designed plan using Market Return Crediting (MRC) could have:

• Kept assets and liabilities aligned
• Prevented persistent overfunding
• Preserved flexibility at termination

Instead, this plan used a fixed 5% crediting rate, creating a structural mismatch between:

• Static liabilities
• Volatile market-based assets

Over time, that mismatch compounded into a trapped capital problem.

 

Why This Case Matters

This is not an isolated incident.

There are far too many plans just like this quietly drifting into:

• Overfunded traps
• Lost deductions
• Forced excise tax scenarios

All while appearing “healthy” on the surface.

 

What You’re About to See

The year-by-year analysis that follows will show exactly how:

• The problem developed
• Why it accelerated
• And where intervention should have occurred

 

More importantly, it will make one thing clear.  This was fixable but no one involved knew how to fix it.

 

Cash Balance Plan Funding Summary (2017–2024)

Year	Plan Assets  Jan 1	Total Funding Target	FTAP*	AFTAP**	Contributions	Actual Return	Plan Assets Dec 31
2024	$2,056,529	$1,424,002	144.41%	144.41%	$376,000	20.61% est	$2,856,368
2023	$1,437,001	$1,151,755	124.76%	124.76%	$275,000	21.96%	$2,056,529
2022	$1,476,209	$894,706	164.72%	164.72%	$195,000	-15.50%	$1,437,001
2021	$991,743	$662,186	149.34%	149.34%	$335,000	16.78%	$1,476,209
2020	$500,599	$478,131	104.46%	104.46%	$340,125	26.09%	$991,743
2019	$281,742	$298,882	94.26%	94.26%	$200,000	6.69%	$500,599
2018	$156,099	$129,058	119.50%	119.50%	$140,000	-10.36%	$281,742
2017	0	$0	100.00%	100.00%	$156,099	0.00%	$156,099

*Funding Target Attainment Percentage

*Adjusted Funding Target Attainment Percentage

 

Cash Balance Plan Year-by-Year Analysis (2017–2024)

2017 — Baseline Year (Healthy)

• FTAP/AFTAP: 100%
• Status: Healthy
• Observation: Plan launched properly aligned—assets match liabilities.
• Takeaway: This is what a correctly designed CBP looks like at inception.

 

2018 — Early Overfunding Begins

• FTAP/AFTAP: 119.5%
• Status: Overfunded
• Return: -10.36%
• Observation: Despite a negative return, the plan becomes overfunded.
• Interpretation: Contributions were too high relative to liability growth, not a return-driven issue.
• Risk Signal: Early indication of design imbalance, not market volatility.

 

2019 — Contribution Overshoot + Liability Lag

• FTAP/AFTAP: 94.26%
• Status: Watch List (slightly underfunded)
• Difference: -$17,140
• Observation: Funding dips below target despite prior overfunding.
• Interpretation:
  • Contributions pulled back too far
  • Liability growth not matched consistently
• Key Insight: Plan begins oscillating → classic FIC design instability.

 

2020 — Stabilization (Temporary)

• FTAP/AFTAP: 104.46%
• Status: Healthy
• Return: 26.09%
• Observation: Strong market return masks structural issues.
• Important: This is not true stability, this is market-driven recovery.

 

2021 — Overfunding Accelerates

• FTAP/AFTAP: 149.34%
• Status: Severely Overfunded
• Contribution: $335,000
• Observation: Large contributions layered on top of strong returns
• Interpretation:
  • Contributions are not being adjusted for asset performance
  • Plan is now structurally misaligned

 

2022 — Market Decline… Yet Overfunding Worsens

• FTAP/AFTAP: 164.72%
• Status: Severely Overfunded
• Return: -15.50%
• Observation: Even with a major negative return, overfunding increases.
• Critical Insight: This proves the problem is NOT investment performance.
• Root Cause:
  • Fixed 5% crediting rate vs real asset volatility
  • Contributions continue without regard to funding level

 

2023 — Persistent Structural Imbalance

• FTAP/AFTAP: 124.76%
• Status: Excess Overfunded
• Return: 21.96%
• Observation: Overfunding remains elevated despite partial normalization.
• Interpretation:
  • Plan cannot “self-correct”
  • Contributions + returns continue to push assets beyond liabilities

 

2024 — Peak Overfunding Risk

• FTAP/AFTAP: 144.41%
• Status: Severely Overfunded
• Surplus: $632,527 increased to $1,432,366 by year end
• Return: 20.61% (estimated)
• Observation:
  • Largest surplus in plan history
  • Contributions still being made at $376,000
• Key Risks:
  • Loss of future deductions
  • Potential trapped capital
  • Inefficient tax deferral strategy

 

Macro Diagnosis (What’s Actually Happening)

1. This is a Design Problem — Not a Return Problem

• Overfunding increased in:
  • Up markets (2021, 2023, 2024)
  • Down markets (2022)
• That eliminates market performance as the root cause.

The issue is Fixed Interest Crediting (5% FIC) vs real asset behavior.

 

2. Contribution Policy is Disconnected from Funding Status

• Contributions continue aggressively even when:
  • FTAP > 140%
• No dynamic adjustment mechanism.

 

3. Classic FIC Mismatch Pattern

This plan shows all three failure characteristics:

• Lagging liabilities (fixed 5%)
• Volatile assets (real market returns)
• Rigid contributions

Result: Oscillation → then runaway overfunding

 

4. Tax Inefficiency Is Now Severe

• $1,432,366 surplus = trapped tax-deferred capital
• Future deductions likely reduced or eliminated
• Plan is no longer functioning as an optimal tax shelter

 

 

What Should Have Happened: Market Return Crediting (MRC) Comparison

A properly designed Cash Balance Plan using Market Return Crediting (MRC) aligns the plan’s liabilities with actual investment performance.

Instead of applying a fixed 5% crediting rate, MRC allows the crediting rate to reflect the underlying portfolio returns, eliminating the structural mismatch between assets and liabilities.

 

Key Differences:

Fixed Interest Crediting (FIC):

• Liabilities grow at a fixed 5% regardless of actual returns
• Assets fluctuate with market performance
• Leads to persistent overfunding or underfunding

Market Return Crediting (MRC):

• Liabilities adjust in line with actual market returns
• Assets and liabilities stay aligned
• Maintains a stable funding range (typically 95%–110%)

Projected Outcome Under MRC (Conceptual):

• 2018–2024 could have remained within a controlled funding corridor
• No accumulation of excess surplus
• Contributions could dynamically adjust based on performance
• Plan termination could allow clean rollover to IRA without excise tax risk

 

Conclusion

This plan did not fail because of poor investment performance.

It failed because the design did not match how the assets behaved.

MRC is not an enhancement it is a structural correction that aligns plan mechanics with economic reality.

 

Call to Action

If you have a cash balance plan or are considering terminating one, this is the moment to take a closer look.

A brief, 30-minute review can identify whether your plan is:

• Drifting toward overfunding or trapped capital
• At risk of losing future deductions
• Missing an opportunity to realign using Market Return Crediting (MRC)

Before you make a decision that can’t be reversed, get a second opinion.

Schedule a customized analysis to see exactly where your plan stands and what options you still have to optimize the outcome.