AAMS Module 9 Deferred Compensation and Other Benefit Plans for Key Executives

Section 457 plans

A Section 457 plan is a nonqualified deferred compensation plan for state and local governments and tax-exempt organizations. Section 457 of the Internal Revenue Code places special limits on the amount of compensation that may be deferred under this type of plan.

death-benefit-only plans

A death-benefit-only plan is a nonqualified deferred compensation plan in which the only benefit provided is a death benefit to the employee's designated beneficiary. A death-benefit-only plan is a valuable tax planning technique for certain wealthy, highly compensated employees.

Unfunded

A deferred compensation arrangement in which no cash or property is set aside on behalf of the specified employee

Rabbi trust

A form of irrevocable grantor trust established by an employer to which contributions are made and accumulations are subsequently used to pay out deferred compensation to a key employee

Executive bonus plan

A form of split dollar arrangement in which the employer issues a bonus to the employee, which the employee uses to pay his or her share of the insurance premiums.

Sinking fund

A fund whereby cash or other property is set aside to provide for the deferred compensation of an executive

golden parachute

A golden parachute is an agreement between an executive and his or her company requiring the company to pay certain benefits in the event of a change in control of the company or when there is an employment termination. The agreement, therefore, provides a guarantee of financial security to the executive in the event of a takeover. Golden parachute benefits typically include cash, stock, compensation, extra pension benefits, medical and life insurance, other fringe benefits, and various combinations thereof.

Roll-out plan

A life insurance plan in which the full ownership of the policy is transferred to the executive after the policy has been in effect for at least seven years.

Voluntary severance retirement plan (VSRP)

A method of encouraging corporate downsizing in which employees are offered severance benefits for retiring at an early date.

Funded.

A plan for which cash or property is actually set aside for the benefit of the employee.

Phantom stock.

A plan of deferred compensation whereby an accounting is made of the performance of stock not actually issued to the employee for purposes of determining the compensation payable to the employee.

Performance plan

A program that provides awards to employees, which are contingent upon attainment of an earnings goal measured over a long period of time.

Defined contribution plan

A retirement plan in which the dollar amount or percentage of the annual contribution is specified. The benefits ultimately received by plan participants are not specified, however, but are determined by contributions and investment results.

Defined benefit plan

A retirement plan in which the dollar amount or percentage to be received annually during retirement is specified in advance based upon actuarial assumptions. Conversely, the contribution amount is dependent upon funding this benefit.

Incentive stock option

A right granted by a corporation to an employee who is usually an executive and that allows him or her to purchase shares of stock of the corporation in a tax-favored manner

Nonqualified stock option.

A right granted by a corporation to one or more of its employees on a discriminatory basis to acquire shares of the corporation's stock.

silver parachute

A silver parachute is very similar to a golden parachute. However, a silver parachute agreement is usually created between a middlemanagement executive and his or her company. As the name suggests, silver parachute benefits are provided on a smaller scale; that is, the benefits are less extensive than those of a golden parachute.

supplemental executive retirement plans

A supplemental executive retirement plan (SERP) is an unfunded nonqualified deferred compensation plan that provides retirement and disability benefits for high-level executives in excess of those provided by the employer's qualified retirement plan, usually a defined benefit plan.

Constructive receipt doctrine

A tax concept that states that any income that is constructively received is includible in the income of the individual who is receiving the constructive benefit.

top hat plans

A top hat plan is a type of SERP that is unfunded and provides benefits to a select group of highly compensated individuals

VSRP: corporate downsizing

A voluntary severance retirement plan (VSRP) is a compensation method used by companies to encourage employees to retire early. Usually, a company's long-term goal in offering a VSRP is to reduce the future costs of salary and benefits. VSRPs also are used to reward long-term employees.

Section 83(b) election

An election eligible to be made under Section 83(b) of the IRC that imposes current taxation on the receipt of restricted stock, but which defers taxation of the stock's subsequent appreciation to the date when the stock is sold.

excess benefit plans

An excess benefit plan is a nonqualified deferred compensation plan that provides benefits in excess of that to which the employee would otherwise be entitled. For example, an employee's benefits provided by a company's qualified retirement plan may be limited by the Section 415 limits on contributions and benefits.

Supplemental executive retirement plan (SERP).

An unfunded plan providing benefits for select employees in excess of those provided by the employer's qualified retirement plan.

Informally funded

Funds are set aside in a general pool but remain subject to the claims of the employer's general creditors.

Rule 144

Rule 144 of the Securities and Exchange Commission dealing with restrictions and filing requirements applicable to officers, directors, and holders of more than 10% of a company's stock.

Stock appreciation rights (SAR).

Stock appreciation rights (SAR). An imaginary unit somehow compared to the value of the common stock of the employer

What types of compensation are exempt from the $1 million deduction limitation on publicly held corporations

The $1 million deduction limitation applies to all remuneration for services unless specifically excluded. Compensation includes cash and the cash value of all remuneration (including benefits) paid in a medium other than cash. Compensation generally includes nonqualified stock options but excludes "performance-based" stock options or stock appreciation rights. Performance-based compensation is defined as compensation paid to an executive based on a pre-established objective performance formula or a standard that precludes discretion. For example, compensation based on a percentage of sales made by the executive qualifies for the exception; however, compensation based on a fixed percentage of the corporation's income does not qualify. In addition to performance based equity compensation, the following types of compensation are not subject to the $1 million deduction limitation: a. remuneration payable on a commission basis (commissions) b. other types of nonequity-based remuneration payable solely on account of the attainment of one or more performance goals (performance-based compensation) if certain outside director and shareholder approval requirements are met (See performance based compensation above.) c. payments to a tax-qualified retirement plan (including salary reduction contributions) d. amounts that are excludible from the executive's gross income (such as employer-provided health benefits and miscellaneous fringe benefits) e. any remuneration payable under a written binding contract that was in effect on February 17, 1993 (and at all times thereafter before such remuneration was paid), which was not modified in any material respect before such remuneration was paid. Hence, a nonqualified plan established on or

What is the $1 million limitation on a publicly held corporation's deduction for compensation paid to certain top executives?

The law limits a publicly held corporation's deduction for "compensation" paid to certain "covered employees" to $1 million per year. A person is a covered employee if the employee is the chief executive officer of the corporation (or an individual acting in such capacity) as of the close of the taxable year, or the employee's total compensation is required to be reported for the taxable year under the Securities Exchange Act of 1934 because the employee is one of the four highest compensated officers for the taxable year (other than the chief executive officer or the chief financial officer).

What are the major differences between qualified plans and nonqualified plans?

a. Nonqualified plans may be established by either an employer or an employee. b. Nonqualified plans may be discriminatory. c. Nonqualified plans are exempt from some (such as participation and vesting requirements), but not all, ERISA requirements. d. An employer may not claim a deduction for a contribution to a nonqualified plan until the employee-participant includes the benefit as taxable income. e. An employee-participant's salary contributions to a nonqualified plan are tax deferred only if the funds are at risk (i.e., if unfunded, subject to the claims of the employer's creditors or, if funded, subject to substantial risk of forfeiture). f. The earnings on investments attributable to an informally funded (or formally funded) nonqualified plan are taxed to the employer unless the investment itself is nontaxable. g. Nonqualified plans are not portable and cannot be rolled over into an IRA. Money from qualified plans can be rolled over into an IRA. Return to question