Nonqualified deferred compensation plans have become increasingly popular as an alternative to the rigid requirements imposed on qualified retirement plans. Unlike qualified plans, nonqualified plans are not subject to ERISA’s nondiscrimination and coverage requirements, allowing employers to target benefits exclusively to a select group of highly compensated executives.
While nonqualified plans offer significant flexibility advantages — easy adoption, design freedom, vesting flexibility, and the ability to supplement qualified plan limits — they also carry important disadvantages: no current employer tax deduction, deferred amounts remain at risk to the employer’s creditors, and compliance with the American Jobs Creation Act of 2003 is required.
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Review Questions
Benefits paid from a deferred compensation plan are tax-free
Deferred compensation payments to a beneficiary are not subject to estate tax
✓Qualified plans are subject to complex nondiscrimination rules
Earnings on assets held in a qualified plan are not sheltered from current income tax
Minimum coverage requirement
Non-discrimination requirement
Vesting requirement
✓Cost recovery requirement
✓Obtaining compensation for the death of a key executive
Attracting key talent
Retaining key executives
Rewarding high-impact achievers
✓Employer tax-deductibility of plan contributions
The ability to tailor a plan to fit the executive’s needs
Employer cost recovery
The ability to favor one key employee
Humanely retiring all of a firm’s employees
✓Attracting a key executive
Arranging for business succession
Funding an ESOP
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