At times, a business owner may find it advantageous to defer compensation until the future. In those cases, some closely held businesses prefer to use a strategy called Non-Qualified Deferred Compensation (NQDC).
In the previous article, we considered the advantages to the business. In this article, we want to focus on the advantages to the participants.
Part Two: Advantages to the Participants
For the participant, NQDC offers a variety of advantages:
Wage deferrals into salary reduction deferred compensation plans have the effect of lowering the amount that would be reported as “gross income” on line 1 of a participant’s Form 1040 income tax return. Thus, salary reduction plans can be a very attractive alternative for business owners and executives who find themselves suddenly bumped into a higher bracket, or when changing tax laws increase income tax rates.
There is an opportunity for tax-leverage at retirement if the executive is in a lower tax bracket when the benefits are received. Benefits of tax-deferred growth can result in increased retirement income, and a pre-retirement death benefit can be provided for designated beneficiaries.
With proper planning, a participant’s retirement income shortfall can be reduced or eliminated. Plans can be individually tailored to fit the needs and production goals of specific participants, and employers can make discretionary contributions to reward individual or team performance.
Unlike qualified retirement plans, there are no deferral or contribution limits with non-qualified deferred compensation plans. Benefit payments can be flexibly designed to meet the needs of participants at any point in their lives.
Informal funding with corporate-owned life insurance (COLI) allows participants to allocate account balances in a manner that is similar to 401(k) plans.
In today’s uncertain economic marketplace, utilizing strategies that allow for increased flexibility now while minimizing lost opportunity costs may make good sense to business owners and executives considering their retirement futures.