Companies are beefing up so-called ‘nonqualified’ retirement plans to attract and retain C-suite talent

Companies are trying to both attract and hold onto C-suite executives by beefing up a risky benefit. 

Nonqualified retirement plans are garnering employer interest at “an all-time high,” according to Chris West, senior director, head of Dallas retirement, and leader of the nonqualified plans specialty group at Willis Towers Watson (WTW). In the past two years, WTW has helped clients implement more new plans and redesign existing plans compared to prior years, she says.

How does a nonqualified retirement plan compare to a 401(k)? “An individual can defer their own compensation into a 401(k) retirement plan, and their employer often provides them with a match,” West explains. “But it’s subject to ERISA [the government’s Employee Retirement Income Security Act].” Meanwhile, the nonqualified plan kind of looks and acts like a 401(k) plan—but “all the rules and regulations of ERISA go out the door,” and there are generally no limits, she says.

The Employment Retirement Income Security Act (ERISA) of 1974 is a federal law that sets minimum standards for most voluntarily established retirement and health plans in the private industry to protect individuals in these plans. Generally, ERISA does not apply to nonqualified plans. So employers can operate without those limitations.

Nonqualified plans are normally reserved for the highest paid employees at large companies. The plan lets employees park compensation away on a pre-tax basis, West explains. This is in addition to what they contribute in their qualified plan. “Both employee and employer contributions are not subject to federal and applicable state income tax until a distribution is paid to the participant,” she says. “FICA, a U.S. Federal payroll tax, is usually paid at the time of deferral or when employer contributions vest.”

WTW’s new survey found that 55% of employers either made changes to their nonqualified defined benefit (DB) retirement plans in the past two years or plan to make changes in the next two years. And in the same time period, 75% changed their nonqualified defined contribution (DC) retirement plans or plan to do so. 

‘A carrot to bring them in’

When organizations seek to hire new C-suite talent or even an executive vice president, oftentimes they’ll use the nonqualified plan as “kind of a carrot to bring them in,” West says. The plan can offer additional incentives, whether it’s an employer match contribution, a restoration-type contribution or even excess, she explains. And, “you can do the exact same thing when you’re trying to retain someone,” she says.

Why is this attractive to C-suite execs? “When you think about somebody who’s making $300,000, $400,000, or $500,000, add in their bonus that could be even more, they need another avenue to defer their compensation on a pre-tax basis,” West says. “In theory, an individual could defer up to 100% of their salary, for example, maybe even 100% of their bonus or commissions. It really depends on what the company allows them to defer.”

Nonqualified plans are not required to be funded the way qualified plans are, West explains. “So sometimes all an employer needs is a record keeper to track balances and process the annual enrollment,” she says. “But if the plan is funded with an asset (most prevalent today are mutual funds), then the record keeper or a third party will support the funding requirements.”

WTW’s findings are based on a survey of 396 U.S. Employers that offer a nonqualified retirement plan. The respondents employ 7.5 million workers. The majority of companies are for-profit and publicly traded. Employers pointed to attracting and retaining key talent as the top reason for offering a nonqualified retirement plan. 

Looking at CFOs in particular, turnover is on the rise. Among 674 companies in the S&P 500 and Coins2Day 500, there have been 75 CFO departures in the first half of 2023, according to Crist Kolder Associates’ new volatility report, and the turnover rate is “slightly ahead of historical norms,” the firm noted.

There’s some risk involved

Nonqualified plans are “really just a promise to pay by your employer that when your distribution event occurs, that they will pay you whatever your account value is worth,” West explains. “Because these plans have a high risk of forfeiture, they are subject to bankruptcy. And if your company experiences a bankruptcy event, then you become a general creditor and you stand in line with all other general creditors.” 

Many survey respondents said they informally fund their nonqualified plan by setting aside an asset, often held in a Rabbi Trust, to provide a source for disbursements and to mitigate risk.

However, not every executive is ready to dive into these waters. Typically people that are in nonqualified plans are “close to the financials of an organization, or they know somebody in an organization that’s close,” she says.

Sheryl Estrada
[email protected]

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