NQDC in the "Real World"

Transcription

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2 NQDC in the "Real World" Guest Presenter: Ben Hall VP & Managing Director, JKJ Retirement Services 2014 fi360 Inc. All Rights Reserved. 2

3 NQDC 101 Real World Practical Primer Presented By: Ben Hall - JKJ Retirement Services VP & Managing Director Tuesday May 19,

4 Outline I. What is NQDC? Who is it for? II. III. IV. Benefits & Considerations Why do Companies Use It? Economics & Informal Funding V. Real World Best Practices VI. Q&A VII. Case Studies 4

5 What is NQDC? Nonqualified Deferred Compensation Many colloquial names: nonqual, NQ, deferred comp, SERP, 401(k) excess, spillover, look alike Plan that is not Qualified with a capital Q Typically used as a supplement in addition to (i.e., not in place of ) other Qualified plans Many flavors exist e.g., Defined Benefit ( DB ) & Defined Contribution ( DC ) Current environment focuses on DC structure 5

6 What is NQDC? Definition Defined contribution deferred compensation plan that needs shadow accounting based on an equity or interest rate index Plain English Translation Not a 401(k) 401(k) like plan No contribution ceiling No discrimination testing Offered only to a select group of key employees 6

7 Why Does NQDC Exist? Employees value strong retirement benefits Regardless of employee level in company Benefits must perceived as considerably strong to have a true impact Qualified plan rules are limiting Curtail ability of key employees to take control of their individual retirement readiness Inability for companies to use Qualified plans as true strategic driver of top talent behaviors 7

8 Sixpack of Primary Drivers of Why NQDC Employee driven plans 401(k) repair Overcoming 401(k) caps & limitations Managing household cashflow & taxes Company driven plans Recruit, reward, retain, retire Create top talent ownership experience Position for shareholder transition Many plans seek to incorporate multiple goals: accomplished via intelligent design 8

9 Who is NQDC for? Why? Generally companies > 50 employees Focus is on key non owner and/or more minor shareholders Generally does not make sense for major shareholder to participate themselves Ownership mindset that places value on contributions of key employees Indirect benefit of offering plan (as opposed to direct benefit of participating themselves) 9

10 Overall Benefits 401(k) like tax experience for execs Unlimited participant deferrals Unlimited company contributions Selectivity & flexibility for eligibility, award criteria, and vesting No early withdrawal penalties 10

11 Overall Considerations Assets held on company balance sheet Deferred corporate deduction Creditor risk for participants Participant benefits = plan liability Informal funding = plan assets 11

12 Participant Benefits 401(k) Like Characteristics: Pre tax deferrals Tax deferred earnings growth Pay tax upon distribution Self directed menu of investments Online account management & reporting Ability to elect different % deferral of salary vs bonus earnings 12

13 Participant Benefits 401(k) Benefit Differences: No $ contribution ceiling employee can defer 100% of salary and/or bonus!!! No Age 70½ required distributions No pre 59½ early withdrawal penalty Flexibility to schedule in service withdrawals to meet personal needs 13

14 Participant Considerations 401(k) Downside Differences: NQDC is a contractual relationship between employee & employer Benefits subject to counter party risk i.e., assets subject to corporate creditors Elections must be made in advance NQDC deferrals may reduce wages eligible for Qualified plan awards No loan provisions No rollover provisions 14

15 Company Benefits Focused & flexible benefit program Targeted to key contributors to maximize ROI on resources spent Strategic tool to recruit, reward, retain, and retire top talent Restores lost Qualified plan benefits Creates flexibility for Qualified plan designs e.g., lower cost alternative vs Safe Harbor 15

16 Company Benefits Depending on design & entity, may be P&L positive day 1 and cost neutral over lifecycle Flexibility for key design elements: eligibility, company awards, golden handcuff vesting One time DOL filing at establishment No annual compliance testing No required audit No Form 5500 filing No fiduciary liability risk 16

17 Company Considerations Timing of NQDC corporate tax deduction Complete opposite of 401(k) Deferred until back end benefit payout C corps carry Deferred Tax Asset under FAS109 to reflect timing difference Asset & liability matching Carrying cost of informal funding assets Plan level administrative costs Staff time to run & communication plan 17

18 NQDC Economics: Informal Funding Fundamental differently from 401(k) Assets & liabilities completely separate All NQDC plans technically unfunded Employee statements = employer liability Tracking made easy by good vendors Recordkeeping account feels 401(k) Employee investment selections indicate ticker symbols to track Assets may, or may not, be actually invested in the funds employee selects Employee doesn t care but CFO does! 18

19 NQDC Economics: Informal Funding To (informally) fund or not No legal requirement to do so Employee doesn t care but CFO does! Company informally funds pool of assets Assets subject to company creditors Best practice to match corporate assets to participant allocations Efficiency gained via aggregated pool Good recordkeeping admin systems do this automatically & seamlessly 19

20 NQDC Economics: Informal Funding Employee Accounts = Plan Liability Exec A Exec B Exec C Large Cap Small Cap Fixed Income $100K $50K $50K Total Aggregate Plan Liaiblities = $200K Informal Funding = Plan Assets Cash Taxable Securities Institutional Corporate Owned Life Insurance 25% 25% 50% Matching Allocations: Automated True Ups 25% 25% 50% 20

21 NQDC Economics: Informal Funding Liquid asset strategies utilized Taxable mutual funds Institutional Variable COLI Fundamentally different carrying cost economic structures Key point of emphasis: With either approach, 100% of carrying cost is borne by company 0% of carrying cost borne by employee Employee doesn t care but CFO does! 21

22 NQDC Economics: Informal Funding Asset Carrying Cost Friction Taxable securities = tax cost on dividends, interest, capital gains etc. Institutional Variable COLI COLI = Corporate Owned Life Insurance Variable = menu of investments Institutional = lower costs (vs retail) and high cash asset value (vs death benefit) No tax on gains but policy charges 22

23 NQDC Economics: Informal Funding Asset Carrying Cost Friction Which approach is better? It depends Corporate tax situation Time horizon Corporate cashflow Corporate Cost Of Money rate Long term liability growth assumption Decision is mostly mathematical Quantitative modeling to determine which has lower corporate carrying cost Employee doesn t care but CFO does! 23

24 Real World Best Practices Document creation to maintain flexibility Investment Policy Statement = no Increasing move toward simplicity to enhance participant appreciation Re focus on marketing, communication, education around key employees Aligning with true subject matter experts Not a 401(k) tack on 409A must be a core competency Consultant, admin vendor, counsel 24

25 Real World Best Practices Informal Funding Design drives funding not vice a versa! During design process remain cognizant of liability matching implications Certain designs make hedging difficult Significant difference between techniques Tax, cashflow, P&L, balance sheet, NPV Importance of quantitative due diligence 25

26 Real World Best Practices Recordkeeping & Admin Proper execution takes true expertise In house vs outsource vendors Design drives vendor not vice a versa! Remain cognizant during design of practicalities for admin best practices Plan documentation Custom doc vs vendor model doc Even if recordkeeper model doc is used still need to engage 409A counsel 26

27 Real World Best Practices Service Provider Selection Less commoditized that 401(k) space Independent consulting How independent are they really? What is their true expertise with 409A? Recordkeeping Singular focused vs breadth of offering Recordkeeping only ( unbundled ) vs packaged with asset platform ( bundled ) Perceived vs actual pros & cons of each 27

28 Real World Best Practices Participant Education Single biggest impact on plan success Foresight in plan design Simple vs complex Understanding = appreciation = ROI Executive mentality Perceive vs actual sophistication Constraints around time & attention 28

29 Real World Best Practices Participant Education Education package Written material alone does not suffice Interactive sessions & support critical Access to plan info Key to appreciation in information age Easy & clear trend to 401(k) like interface Visibility Statement to participants via push Internal communication & promotion 29

30 Closing Re-Cap Modern NQDC is selective 401(k) like plan with no contribution ceiling Many similarities to, but also important differences from, a 401(k) Flexible design allows customization to meet multiple goals & objectives Implementation with specialists is key 30

31 401(k) Repair Case Study Facts Blue collar agricultural ~300 employees Despite education & communication campaigns, average non HCE rate ~3% HCEs (~20) limited to ~5% after plan test failures & taxable contribution refunds Examined Safe Harbor = expensive i.e., multiple hundreds of thousands of dollars 401(k) match 25% up to 8% so HCEs not even able to maximize free money 31

32 401(k) Repair NQDC Results Accomplished Targeted plan for ~20 HCEs significantly lower cost vs Safe Harbor for all employees Taxable refunds over time to be eliminated and/or auto re deferred into NQDC HCEs empowered to save on pre tax basis i.e., first 5% in 401(k), then excess into NQ NQDC plan includes restoration match on NQ deferrals to make whole award 32

33 Overcoming Qualified Plan Limitations Case Study Facts White collar financial services ~200 EEs Leadership maxing out 401(k) deferrals Recognition the 401(k) is not enough Appetite among ~10 individuals to save above & beyond the 401(k) Company match 50% up to 8% but limited based on IRS definition of compensation 33

34 Overcoming Qualified Plan Limitations NQDC Results Accomplished NQDC plan offered primarily on a voluntary deferral basis Exception: plan included true up feature for individuals earning > $250K Retirement readiness metrics among key employees materially improved Opened plan up to board members enabling them to tax defer cash board fees 34

35 Key Employee Retention: Golden Handcuffs Case Study Facts White collar distribution ~70 employees Company recognized the critical nature of its sales force relationships & continuity Sought key employee turnover insurance to protect against cost of losing top talent Impact of turnover during growth mode estimated as significant multiple of pay Focus of program was to be on top 6 key business development & sales officers 35

36 Key Employee Retention: Golden Handcuffs NQDC Results Accomplished Discussion points: balancing amount of award & vesting duration Sales force NQ award based on individual metrics, ranging form 5% to 15% of pay Vesting schedule 4 year rolling cliff based on date of each award Ancillary benefit: voluntary deferral ability extended not just to sales force, but also handful of C suite leadership as well 36

37 Disclosures This material is not intended to present an opinion on legal or tax matters. Please consult with your attorney or tax advisor as applicable. Investments in securities involve risks, including the possible loss of principal. When redeemed, shares may be worth more or less than their original value. Investors should consider the investment objectives, risks, charges and expenses of any mutual fund or variable universal life policy carefully before investing. This information has been taken from other sources, which we believe to be reliable, but there is no guarantee as to its accuracy. Past performance is not a guarantee of future results. Securities and Investment Advisory Services Offered Through M Holdings Securities, Inc. A Registered Broker/Dealer and Investment Advisor, Member FINRA/SIPC JKJ Financial Services is a Member Firm of the M Financial Group. The JKJ companies are independently owned and operated 37

38 Q&A and Housekeeping To ask a question to the presenters, enter it now into the GoToWebinar interface. Notes: Continuing education: You will receive a follow up in the coming days with instructions to receive CE for your AIF, AIFA, or PPC designations. CE for CFP Board will be reported automatically on your behalf. A recording and slides will also be made available in the coming days and sent to you via fi360 Inc. All Rights Reserved.