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Written by Ken Morris
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Sunday, 04 February 2007 |
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Word Count: 628 Great Idea...Lousy Name
Obviously, nobody asked the marketing guys before coming up with this one.
Who in the world thought up the name "non-qualified deferred compensation?" Oh,
it's descriptive alright. But who wants anything "non-qualified?" Do you want a
"non-qualified" doctor, lawyer, or accountant? What's worse is deferring
compensation. How many people want to work today and get paid in five years? The
problem is, non-qualified deferred compensation is a great idea; it just has a
lousy name.
Non-qualified deferred compensation (NQDC) is a powerful retirement planning
tool, particularly for owners of closely held corporations (for purposes of this
article, I'm only going to deal with "C" corporations). NQDC plans are not
qualified for two things; some of the income tax benefits afforded qualified
retirement plans and the employee protection provisions of the Employee
Retirement Income Security Act (ERISA). What NQDC plans do offer is flexibility.
Great gobs of flexibility. Flexibility is something qualified plans, after
decades of Congressional tinkering, lack. The loss of some tax benefits and
ERISA provisions may seem a very small price to pay when you consider the many
benefits of NQDC plans.
A NQDC plan is a written contract between the corporate employer and the
employee. The contract covers employment and compensation that will be provided
in the future. The NQDC agreement gives to the employee the employer's unsecured
promise to pay some future benefit in exchange for services today. The promised
future benefit may be in one of three general forms. Some NQDC plans resemble
defined benefit plans in that they promise to pay the employee a fixed dollar
amount or fixed percentage of salary for a period of time after retirement.
Another type of NQDC resembles a defined contribution plan. A fixed amount goes
into the employee's "account" each year, sometimes through voluntary salary
deferrals, and the employee is entitled to the balance of the account at
retirement. The final type of NQDC plan provides a death benefit to the
employee's designated beneficiary.
The key benefit with NQDC is flexibility. With NQDC plans, the employer can
discriminate freely. The employer can pick and choose from among employees,
including him/herself, and benefit only a select few. The employer can treat
those chosen differently. The benefit promised need not follow any of the rules
associated with qualified plans (e.g. the $44,000 for 2006) annual limit on
contributions to defined contribution plans). The vesting schedule can be
whatever the employer would like it to be. By using life insurance products, the
tax deferral feature of qualified plans can be simulated. Properly drafted, NQDC
plans do not result in taxable income to the employee until payments are made.
To obtain this flexibility both the employer and employee must give something
up. The employer loses the up-front tax deduction for the contribution to the
plan. However, the employer will get a deduction when benefits are paid. The
employee loses the security provided under ERISA. However, frequently the
employee involved is the business owner which mitigates this concern. Also there
are techniques available to provide the non-owner employee with a measure of
security. By the way, the marketing guys have gotten hold of NQDC plans, so
you'll see them called Supplemental Executive Retirement Plans or Excess Benefit
Plans among other names.
“Can somebody please help me watch, manage, invest or oversee my 401k” is the
question Mr. Morris hears most often that causes him the most concern. Fearing
the American worker is being left in the dark, Mr. Morris, a fee based
Investment Advisor Representative, based in Central Ohio, with Raymond James
Financial Services, Inc., helps (http://www.investmy401k.com)
401k participants get the most out of their retirement plan. Let Ken Morris be
your 401k Watchdog, with InvestMy401k.
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