2. Trends in Deferred Compensation A Case Study

3. Medium | Large Case Trends
Larger, complex plans are getting unbundled from their 401k record keeper.
Overall weak sponsor and participant education and activism for larger, complex plans.
Reduced minimum premium for private placement.

4. Highland | Nolan Financial Case Study
Background: The firm engaged an executive benefits company to review and discover ways to optimize their deferred compensation plan. This firm engaged Highland Capital and Nolan Financial.
Initial Basic Plan Details:
Implemented in early 2000s
Plan is record kept by their 401k record keeper
Participants can defer up to 25% of base salary and up to 100% of bonus
Maximum investment reallocations per year: 4
Plan is informally funded with mutual funds and company stock

5. More Plan Details after Initial Meeting
Over the past 15 years, the plan has grown to over $30m.
Projected annual contributions over $1m per year.
Over $1m of realized capital gains and dividends in 2015, which are taxable to the company.
Plan document contained a provision that the company reserves the right to acquire life insurance to satisfy its obligations.
Distribution option: can elect up to ten annual installments.
Overall education, regarding deferred compensation options was weak.

6. Three Areas of Improvement
Plan Design: good not great
Participants can defer up to 25% of base salary and up to 100% of bonus
Best practices: 50% – 75% of base salary
Maximum investment reallocations per year: 4
Best practices: unlimited
Minimum deferral period for fixed date accounts is five years from the deferral year.
Best practice for an unfunded or mutual funded plan would be less, 2-3.

7. Three Areas of Improvement
2. Administrative costs: high
Over $1m in realized gains and dividends are taxable to the company in addition to record keeping fees
Best practice: alternative split funding options including, employer-owned life insurance to mitigate taxes on large deferred compensation portfolio.
According to a survey of large companies with $1 billion-plus of annual revenues, approximately 73% of those companies that fund their NQDC plans do so with COLI.
Source: “Life Insurance: A Top Funding Vehicle in Executive Comp Plans; August 18, 2014: by Warren S. Hersch in reference to Executive Benefits – A Survey of Current Trends;

8. Three Areas of Improvement
3. Weak Education
Distribution option: can elect up to ten annual installments
NEOs were unaware that they could benefit from avoiding tax on distributions, if they retired to a state with no state income tax and elect to receive ten annual distributions.
2012
Current
% Change
Ordinary Income1
35%
39.6%
13%
Medical Payroll Tax2
1.45%
2.35%
62%
Federal Earned Income Rate
36.45%
41.95%
15%
Long-term capital gains rate & qualified dividends rate
20%
33%
Medicare tax on net investment income3 0%
3.8%
New tax
Total long-term capital gains rate & qualified dividends rate
(includes 3.8% Medicare tax on net investment income)
23.8%
59%
Maximum estate tax rate
40%
14%

9. Summary and Recommendations
Unbundle deferred comp from 401k provider
Improve Plan Design
Increase base contribution
Uncapped reinvestment allocations
Reduce minimum deferral period
Minimize fiduciary risk: Tussey v ABB
Improved sponsor and participant education
Tax benefit for ten annual installments
Reduce cost via COLI split funding approach
Source: “Life Insurance: A Top Funding Vehicle in Executive Comp Plans; August 18, 2014: by Warren S. Hersch in reference to Executive Benefits – A Survey of Current Trends;

10. Private Placement COLI Proposal
$3 million annual premiums for 7 years
Guaranteed issue coverage on 80+ active plan participants
Private Placement COLI now has over 300 funds to choose from
First year estimated commissions: $600k

14. Sample Private Placement COLI vs. Mutual Funds