Nonqualified Plan Advantages

From an employee's perspective, getting more compensation is always a good thing. Ultimately, however, it is the employer that makes the final determination whether a nonqualified deferred compensation plan fits its needs.

The following are the major advantages associated with a nonqualified plan that should be considered in the decision-making process:

• Easy plan adoption. Because there are few formalities involved in setting up a nonqualified deferred compensation plan, it is simpler to adopt. Conversely, a qualified plan must meet certain formal requirements. For instance, it must be written, must be accompanied by a trust, must be formally communicated to employees and must meet participation, vesting and funding requirements. Nonqualified plans generally need not meet these formal requirements.
• Coverage and design flexibility. Because there are no coverage, eligibility or participation requirements, an employer can decide to provide nonqualified deferred compensation benefits only to a select group of executive or highly compensated employees. This allows the employer to provide rewards and incentives based on an executive-by-executive approach.
• Vesting and forfeiture flexibility. Under a nonqualified plan, an employer may give the employee an immediate right to the benefits or subject the benefits to forfeiture provisions, depending on the employer's needs.
• Exemption from burdensome tax requirements. Nonqualified plans are exempt from statutory limits on annual contributions and benefits, funding rules, qualified joint and survivor rules, and other provisions of the tax code. In addition, employees who receive benefits can defer income into future years so long as the benefits are subject to a substantial risk of forfeiture.
• Partial exemption from ERISA. Nonqualified plans that are unfunded and that provide benefits to a select group of employees are exempt from most of the Employee Retirement Income Security Act (ERISA) requirements, such as those involving funding and reporting and disclosure.
• Cash compensation option. At some point, an executive may prefer receiving cash compensation instead of having a deferred arrangement. The nonqualified deferred compensation plan allows for that option, generally without any penalty. A qualified plan will not allow the same freedom.
• Supplement to qualified plans. Nonqualified plans allow contributions beyond the caps set for a qualified plan. For example, the maximum annual addition to a defined contribution plan (employer contributions, employee contributions [excluding any tax-free rollover contributions], and forfeitures) in 2013 is the lesser of $51,000 or 100 percent of the participant's compensation ($52,000 for 2014). The nonqualified deferred compensation plan may, therefore, be used to supplement a qualified plan and provide greater benefits to the executive employee.

Before you get too excited about all the advantages, remember that there are also a few disadvantages of nonqualified plans to consider.

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