Across the landscape of employee benefits, there are many fringe benefits offered to the “rank and file” employee as a way to attract and retain employees. However, among the executive ranks there are fewer options with which to entice top talent, other than to offer more money. Of the available options, some include tools that are designed to shelter money. Other options are created with tools to incentivize the executive to stay with the firm. In this article we will explore some of the tools used by companies to attract and retain top talent.
Qualified Retirement Plan
Today there a number of ways to save money for the future (i.e. Employer-Sponsored Retirement Plans, Individual Retirement Accounts, or Pension Plans). However, some retirement plans have restrictions regarding how much the employer and employee can contribute. The limitation on the amount both employers and employees can contribute was established by the IRS, and was applied to any qualified retirement plan. In order to be deemed “qualified" by the IRS, the account is required to be bound by certain standards laid out in Section 401(a) of the Internal Revenue Code. Summarily, a qualified retirement plan is sponsored by an employer and can fall into one of two categories: a defined contribution plan, and a defined benefit plan. In order to understand the differences, here are some highlights:
Defined Contribution Plan
1. These plans offer employees the ability to contribute pre-tax income, up to a limit, in order to reduce current income tax liability.
2. A defined contribution plan allows employees to grow their investments in a tax deferred manner, thereby not recognizing ordinary income taxes until funds are withdrawn at a later date.
3. Some employers contribute to their sponsored plan through “matching contributions”. These contributions are offered to retain employees and to incentivize employees to save for their future.
4. These accounts are established with vesting schedules, which tells the employee when their employer contributions are accessible to the employee.
5. Examples of these plans are 401(k) plans, 403(b) plans, Thrift Savings Plans, and Simple IRA plans.
6. Assets of these plans CAN be rolled over to an IRA account upon separation or termination.
Defined Benefit Plan
1. A defined benefit plan, synonymous with a pension plan, was created to reward and incentivize participants to remain with a firm for an extended period of time.
2. This plan identifies a specific benefit that will be payable upon the participant’s retirement. The benefit is predetermined by a formula established at the plan’s inception. The formula takes into account factors such as how long a participant has worked for the company, and the participant’s salary.
3. The benefit can be paid over a defined period of time, or for the participant’s lifetime. Additionally, the benefit can be subsequently passed on to a spouse for their lifetime.
4. Assets of these plans CAN be rolled over into an IRA account upon separation or termination.
When qualified retirement plans have reached their contribution limit, both by the employee and by the employer, select employees are then given the opportunity to electively defer income into ‘Non Qualified Deferred Compensation Plans’. Under Section 409a of the Internal Revenue Code, these plans offer unique advantages and disadvantages that should be considered in more detail before contributing funds to them. The following are some highlights:
1. These plans are typically made available to highly compensated employees, and allow them to defer additional pretax dollars beyond the limits of qualified plans.
2. Pretax contributions lower current income tax liability.
3. Employers interested in contributing more income to employees can make a matching contribution to an employee’s elective deferral.
4. These plans allow the employee to invest contributions and grow them on a tax deferred basis for the duration of their employment with the company.
1. Assets contributed to these accounts are not considered assets of the employee, more like a promissory note to pay the account balance in future years.
2. These assets are not afforded the same asset protection as qualified plans. In order to qualify for pretax treatment the plan assets are required to be subject to a “significant risk of forfeiture”.
3. If a company were to declare insolvency, these assets would be available for seizure by the firm’s creditors.
4. If the funds are available upon separation or termination from the employer, then they are typically paid out at the moment of separation or over a defined period - usually up to five years.
5. Examples of these plans include Supplemental Executive Retirement Plan (SERP), a Rabbi Trust, and Executive Compensation Plan.
6. Assets of these plans CANNOT be rolled over into an IRA account upon separation or termination. This will create a potentially large tax liability, which will make working with a tax advisor very important before and during this distribution period.
Executive insurance can consist of different components, and is typically used as another incentive tool to attract and retain top talent. These benefits are paid for by the company and can supplement existing policies. Examples of executive insurance packages are:
- Company Owned Life Insurance (i.e. undivided interest plan, executive bonus plan, split dollar plan)
- Company Owned Long Term Care Insurance
- Executive Health Exams
- Supplemental Disability Insurance
- Retiree Health Care
From the employee’s perspective, each of these executive insurance benefits are attractive incentives. However, from the employer’s point of view, there could be a tax benefit associated with making payments into these policies according to Revenue Rule 80-303. It is for this reason that any business owner, or board of directors, should explore how fringe benefits under IRC §3121(a)(2) and 3306(b)(2) could benefit them and be used to retain top talent.
Personal Financial Counseling
Financial counseling, also known as financial planning, is typically offered to senior leadership through a partnership with a third party company. For example, companies like PwC and Ernst & Young offer retirement and total compensation services to other companies as a way to assist executives with their compensation. Unfortunately, these services are not always accessible to the average employee as they can be expensive for the company to employ. This is why it becomes increasingly important to look for companies, or independent financial planning practitioners that specialize in executive compensation consulting.
If you currently work with a financial consultant, financial planner, or financial advisor it will become increasingly important for them to understand how your executive benefits will impact your long term planning. Financial reviews should be conducted on a quarterly basis, if not bi-annually, to update investment forecasts. If you are an executive who participates in stock options, or has received restricted stock, then Black-Scholes pricing models may need to be updated more frequently depending on market volatility. For those who do not currently employ the services of a financial counselor, consider working with a CERTIFIED FINANCIAL PLANNER™ practitioner as they have been through rigorous education in executive benefit plans.
In the world of executive benefits there are many ways to attract industry talent. However understanding the different nuances between benefits like stock options and restricted stock or between company owned life insurance and employee owned life insurance can be confusing. This is why you want to work with a qualified professional with direct experience supporting executives benefits plans. We strongly encourage you to take the time to do your research and find individuals, or companies, that can guide you through the complex process of integrating your executive benefits in with your personal financial planning.
Content in this material is for general information only and not intended to provide specific advice or recommendations for any individual.