PERKING UP BENEFITS: EXECUTIVE BONUS PLANS
In a highly competitive job market, attracting and retaining the best employees is not always an easy task. You need to take advantage of all strategies at your disposal. Many employers work hard at developing an attractive compensation package for their employees as a method of attracting and retaining staff.
Qualified retirement plans are often an integral part of these packages. Your contributions to these plans have the advantages of being tax deductible for you, while accumulating on a tax-deferred basis for your employees.
In order to improve employee compensation, particularly for executives, many businesses may choose to supplement their qualified plans with nonqualified strategies. Nonqualified plans allow you to pick and choose whom will be covered and determine how much you contribute to the plan. While there is a wide range of nonqualified plans from which to choose, two of the more popular ones are deferred compensation plans and bonus plans.
Deferred CompensationUnder a deferred compensation arrangement, you (the employer) give the employee the option to defer a portion of compensation to be paid at a later time. Future payouts from the deferral plan would generally be based on the amount of that deferral and include a small “earnings” rate.
Deferred compensation is actually an unsecured promise of the company to pay the employee. The company does not have to fund the deferral, and makes the decision as to how to pay for this promise. If the company chooses to fund the deferral with assets that generate an income, that income is owned by the corporation, less the amount deferred. Although a deferred compensation plan gives your company control of the funding vehicle, you need to determine what, if any, tax implications exist. It may be best to discuss this issue with your tax advisor.
Executive Bonus PlanIf you are looking for a program that provides a current tax deduction, you should consider the executive bonus plan. This plan may make sense when your company’s tax bracket exceeds your executive’s personal tax bracket. It works like this: Your company chooses which workers it wishes to reward with a bonus. The employee chooses to place the after-tax portion of the bonus into a personally-owned life insurance policy. In turn, your company would then be able to deduct the bonus as compensation.
For you, the simplicity of the plan is appealing in and of itself. However, the employee also benefits because his or her family receives additional protection above that offered by your company’s group life insurance plan. Also, the employee can look forward to receiving future cash, which is a great way to save.
Restrictive Executive Bonus PlanA different twist on the preceding plan is the restrictive executive bonus plan, which resembles a regular bonus plan, except that your company retains greater control over the life insurance policy. You do this by prohibiting the employee from surrendering, borrowing, assigning, or withdrawing cash values from the policy by attaching a restrictive endorsement. Control of this agreement is spelled out in a contract that defines your company’s rights and vesting terms for the employee.
(Note: The use of such restrictions may result in the characterization of your company as a beneficiary due to the control of, and possible access to, cash values you exercise over the policy. This may affect the tax deductibility of your company’s contributions to the plan. Again, you should consult your tax advisor on this issue.)
Restrictive bonuses are a relatively new approach and provide an effective means for rewarding key employees—including yourself—while maintaining a degree of company control over plan assets.
A nonqualified benefit plan can help you “sweeten the pot” for your top performers.