Retirement Plan Consultants (TPA Services)

Nonqualified Deferred Compensation - What is it?

• Nonqualified Employer Retirement Savings Plan that does not meet the tax and labor law (ERISA) requirements for qualified pension plans.
• Used to provide retirement benefits to a select group of executives or key personnel or to provide supplemental benefits beyond those provided by company’s qualified plan
• Must be corporation, tax exempt organization or governmental agency
• 457(b) plans can include employee deferrals, employer match and employer non-elective contributions.  Combined these contributions are subject to the annual deferral limit of $19,000 for 2019.
• 457(f) plans: often termed an “ineligible” non-qualified deferred compensation plan because employers are permitted to provide compensation in amounts that exceed limitations imposed on 457(b) “eligible” plans.
• Most plans are designed as non-elective plans with employer provided contributions only.  Contributions in these plans can exceed the annual deferral limit of $19,000 for 2019.
• Can also be referred to as Top-hat, SERP or Excess Benefit Plan.

Advantages?

• Involves minimal IRS, ERISA and other regulatory requirements such as reporting & disclosure, fiduciary funding requirements, etc.
• More plan design flexibility than qualified plans.
• Allows coverage for a group of employees or even a single employee without any non-discrimination requirements.
• Allows Employer to provide different benefit amounts for different employees on different terms & conditions.
• Restores contributions/benefits limited by IRS restrictions in qualified retirement plans.
• Employee can defer max amount($19,000 for 2019) to 457(b) and max to 401(k)/403(b)
  • This is an attractive feature for those key employees really looking to maximize their retirement savings.
• Can be used as a form of “golden handcuffs” that help bind the employee to the company.  Plan can provide forfeiture of benefits according to a vesting schedule for almost any contingency such as, terminating employment before retirement or misconduct or going to work for competitor
• Nonqualified plans can help solve 4R problem: (recruit, retain, reward, retire)
• Deferral of taxes to participants until constructively received (note: Social Security and FICA taxes still apply in certain situations. You should consult tax expert for guidance.)
• Tax exempt 457 must restrict eligibility to a select group of executives or key personnel.
• From executive point of view, the lack of security based on company’s unsecured promise to pay. Employer insolvency.  No ERISA protection.
• For 457(b) plans the annual deferral limit ($19,000 for 2019) includes employee deferrals, employer match and employer non-elective contributions. This could become an issue if the employer is making a significant employer contribution to the plan.

Disadvantages?

• Tax exempt 457 must restrict eligibility to a select group of executives or key personnel.
• From executive point of view, the lack of security based on company’s unsecured promise to pay. Employer insolvency.  No ERISA protection.
• For 457(b) plans the annual deferral limit ($19,000 for 2019) includes employee deferrals, employer match and employer non-elective contributions. This could become an issue if the employer is making a significant employer contribution to the plan.

Investment of Assets

• Until distribution, all assets shall remain solely the property and rights of the employer, subject only to the claims of the employer’s general creditors.
• Considered “Unfunded” for tax and ERISA purposes
  • Employer can elect to informally fund into a “Rabbi Trust” (assures employee that the employer will have liquidity to pay promised benefits)  “Rabbi Trust” will not protect against employer’s insolvency.
• Participants can elect how to invest the assets of the plan.(i.e. mutual funds, etc.)

Timing of Taxation

• Participant is taxed on accumulations when a substantial risk of forfeiture lapses, regardless of when the funds are received by the participant
• Constructive receipt
• Participant may elect timing and form of distribution if election is made prior to date distribution is made available
• Distributions are taxed as wages and withholding is reported via W2.
• Participant can make 1 subsequent election, prior to commencement of distributions, to further delay distribution

Distribution Rules

457(f) Plans

• Participant elects the distribution dates for the payment of benefits.  Usually coordinated with the substantial risk of forfeiture event
• Tax-exempt 457 plans cannot roll or accept rollovers
• Tax-exempt 457 plans cannot make participant loans
• Reported on W-2

457(b) Plans

• Withdrawals permitted after severance of employment
• Must start receiving benefits by April 1 following later of retirement or age 70 ½
• Plan loans not permitted

The Next Step

• What is the Employer’s objective with the Retirement plan?
• Whom do you want to benefit in the plan?
• What level of benefit do you wish to provide?
• What do you want to establish as the “substantial risk of forfeiture event? (ie.. When is the employee entitled to the benefit?)