IRC 404(a)(7) limits the total a business can deduct when the same person is covered by both a defined benefit plan and a defined contribution plan. The cap is the greater of 25% of the participants' pay or the amount the defined benefit plan needs to meet minimum funding. It applies only to defined benefit plans outside the PBGC's insurance program, which includes a plan that covers only the business's owners.
Two carve-outs make it workable:
- Elective deferrals do not count. Your own 401(k) salary deferrals, including catch-ups, are unaffected.
- Employer contributions of up to 6% of pay to a 401(k), profit-sharing plan or SEP are ignored. At the $360,000 compensation limit, that is $21,600.
Above 6%, only the excess counts against the cap, together with the cash balance contribution. With a large cash balance contribution there is usually no room left for it, so in practice owners keep employer profit sharing at or under 6% of pay in years when both plans are funded. Contributions over the limit are not deductible that year and can carry a 10% excise tax.
For the self-employed, pay here is earned income after the contributions themselves, so the 6% is measured on a smaller figure than your profit. See using a cash balance plan with a Solo 401(k).