For businesses on a growth path, employee benefits are a critical part of compensation packages – especially when you’re competing to attract the smartest and most experienced people for your management team. So what should you include in your benefits to make them competitive? A retirement plan is almost mandatory these days. But for your most highly paid employees, a qualified plan may not offer enough savings and tax planning flexibility due to IRS restrictions. A nonqualified deferred compensation plan gives you a way to provide extra tax-deferred savings options to a small group of top individuals within your company.
A nonqualified deferred compensation plan is a type of retirement plan that lets select, highly compensated employees enjoy tax advantages by deferring a greater percentage of their compensation (and current income taxes) than is allowed by the IRS in a qualified retirement plan.
Both types of plans offer tax-deferred benefits to employees. But there are distinct differences in eligibility, deferral limits, distribution timing, asset security, and other features – along with IRS-defined rules – that will influence whether you offer one of the other, or both.
Section 409A lays out the rules for when nonqualified deferral elections can be made, and when distributions can be taken. All nonqualified plans must comply with Section 409A rules or risk losing the tax-deferred status of the plan.
As you think about whether to set up a nonqualified plan for your company, ask yourself some key questions to determine if the plan would benefit you personally. If it does, it will probably benefit your other highly compensated employees and may help you recruit and retain the best managers.