SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN (SERP)
SERP PROVIDES SUPPLEMENTAL INCOME TO AN EXECUTIVE DURING RETIREMENT BASED UPON CERTAIN DISTRIBUTION TRIGGERS.
A supplemental executive retirement plan (serp) is an employer-sponsored deferred compensation plan that provides supplemental income to an executive during their retirement years based upon certain distribution triggers.
- The plan can be custom designed to each executive. It can include vesting provisions, benefits can be based on individual or company performance, and can include benefits for disability and other unforeseen events.
- The employer receives a tax deduction when the supplemental benefits are paid to the executive.
- Plan is nonqualified, not subject to ERISA limitations on who is included in the plan and the amount of the benefits.
Financing and Funding
As a non-qualified benefit plan, a SERP is intended to be an unfunded arrangement. Many employers that sponsor these types of arrangements purchase life insurance to offset and/or recover the costs associated with the plan and other employee benefit plans. The purchase of life insurance can be further leveraged to provide the plan participant/executive supplemental life insurance coverage and/or a tax-free SERP benefit to the executive’s beneficiary.
Employers can also utilize our proprietary LINQS+ strategy to provide lifetime SERP benefits at potentially reduced cost. Given the increasing life expectancy, a lifetime benefit can be an extremely valuable component of a retirement plan. Please see here for more details.
What is the federal income tax effect of this plan on me?
Amounts accrued by the employer on your behalf will not be taxed for federal income tax purposes until you begin receiving payments. Usually this occurs upon your retirement, but could also occur if there is a separation from service or some other triggering distribution event.
As an executive, will I pay payroll taxes on amounts distributed from the plan?
As you “vest” in the benefits under this plan, your employer will be required to withhold all applicable payroll taxes (Social Security/Medicare, etc.) on only the current year’s vested amount. Once you reach retirement, if your employment taxes have been properly taken into account, you will not pay payroll taxes on the distributions you receive. Given wage base limitations imposed on certain taxes and interest applied to amounts taken into account for FICA purposes, paying these taxes as you vest is generally advantageous for both the executive and employer.
Are benefits payable to my beneficiary under the plan taxable income to my beneficiary?
The death benefit payable to your beneficiary is taxable as ordinary income for federal income tax purposes. Your tax advisor can provide you with more information on this topic.
Under what circumstances can I receive a distribution of all or part of my benefits under this plan?
There are a number of permissible distributions under this type of plan. Please refer to your specific plan document for more detail.
- Generally, benefits under this type of plan are designed to be paid out upon reaching a certain retirement age.
- Upon your death, your named beneficiary may receive a lump sum or installment payments that would equal the benefit you would have received if you had lived.
- If a change in control occurs, often the plan document will call for a benefit payment equal to the retirement benefit. Again, please consult your specific plan document for more details.
- Upon your disability while employed, often a plan document will provide you with a benefit that is less than your retirement benefit.
- If you experience an unforeseeable emergency, you may petition the board of directors to receive a hardship distribution. The amount of the hardship distribution will be determined by the board and in compliance with Section 409A of the Internal Revenue Code.
Can I take a loan from my plan?
No, loans are strictly prohibited by IRS rules.
Can I change my payout date if I want to work beyond my retirement age?
Once the plan document has been signed, IRS rules make it very difficult to make changes. Some changes to the form and timing of payments are permitted, but only with a mandatory 5-year delay in payment.
Will the distributions from the plan affect my Social Security benefits after I retire?
Yes and No. Distributions made from the plan will not affect your Social Security benefits themselves. For purposes of Social Security, these distributions are considered “earned” when they are credited to your account; therefore, they do not constitute earned income under the earnings test when they are distributed to you. However, because the distributions will be considered gross income for federal income tax purposes, they may have the effect of subjecting your social security benefits to federal income taxation. These issues need to be discussed with your tax advisor.
What happens to my benefits if my employer becomes insolvent or bankrupt?
In the event that your employer becomes insolvent, you will be an unsecured general creditor of the employer. Your claim against the assets of the employer will be considered along with the claims of other general creditors of your employer.
Can I assign or dispose of my interest in the plan?
No. Sometimes an employee wants to use these benefits as collateral against for a loan. You cannot in any way sell, assign, hypothecate, alienate, encumber or in any way transfer or convey in advance of receipt, any of your rights under the plan.