How To Choose A Retirement Plan From Non-qualified Retirement Plans

Most tax benefits for retirement planning are limited to those plans that satisfy the conditions laid down by the Employee Retirement Income Security Act. To that extent, non-qualified plans, which do not qualify these criteria, are at a disadvantage. However, where tax benefits do not matter much, as in case of very high income earners, or where retirement benefits can be maximized by mutual negotiation and deferment, non-qualified plans can be superior.
How to Choose a Retirement Plan from Non-Qualified Retirement Plans
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There are many non qualified Retirement Plans available that may offer many benefits. Before you decide to choose own of them as your instrument for Retirement Planning, there are certain aspects of these Plans that you need to know.

What are Non-Qualified Plans ?

Non-Qualified Retirement Plans refer to those retirement plans that are not qualified to receive the tax benefits that are available to Qualified Plans, like the 401 (k) IRA plan.

How are they different from Qualified Plans ?

The main difference in case of qualified and non-qualified plan is the tax treatment of the deferred compensation or contribution. When the conditions

prescribed by the Internal Revenue Code as well as the Employee Retirement Income Security Act (ERISA) are satisfied, then the deferred compensation becomes exempt from tax in the hands of the employee and is treated as an expense in the hands of the employer. However, when these conditions are not satisfied, then such tax benefit will not be available.

What are Primary Characteristics of Non-Qualified Plans ?

One characteristic feature of Non-qualified retirement plans is that they are not immune from the employer's creditors and can be forfeited by them. Thus, unlike qualified plans which are free from the risk of forfeiture in case of employer's bankruptcy, the non-qualified plans suffer the risk of being forfeited in such a case.

Most non-qualified plans are a matter of choice for the employee and employer, and usually opted for by both parties on the basis of mutual negotiations, to provide supplemental retirement benefits to the senior and highly compensated executives. However, in case of non-profit organizations, they are not allowed to have any other retirement plans except those covered under section 457 (f) of the Internal Revenue Code. These are non-qualified plans and do not have the tax benefits unless they are liable to forfeiture by creditors. Unlike 401 (k) and other qualified plans which are tax sheltered and also immune from forfeiture on account of employer's credits, 457 (f) plans will either not be tax-sheltered, or else they will be liable to forfeiture.

What are their Major Limitations ?

Non-qualified plans do not offer the same tax benefits that are offered by the qualified plans, yet they offer several advantages that make them a useful alternative.

Advantages of Non-Qualified Plans

  1. They are more flexible, and can be modified according to the needs of the employer and the employee.

  2. They are easier to administer and require less formalities and paper-work.

  3. Their greatest advantage is that they allow retirement benefits without any limits. Thus they are very


    useful in case of highly compensated employees, or top executives.

  4. For the employee, they provide an important option of deferring the taxes, to the date when these benefits are actually realized.

  5. Because of their flexibility, they can be designed as unfunded plans that vest in a progressive manner, offering a higher benefit for a longer stay with the employer, and thereby used by the employer for retaining important employees.

  6. They can also be designed in a manner that they offer incentives for performance.

  7. They can be designed to provide compensation in many forms, like ESOPs, insurance or annuities.

Disadvantages of Non-Qualified Plans

  1. They do not provide any tax benefit for the employer in respect of deferred compensation, though there would be a benefit to the employee. (In qualified plans both are exempt from tax on the amount of deferred compensation / contribution).

  2. These plans can be forfeited by creditors in case of employer's bankruptcy.

  3. Vesting rules may make them unfavourable for the employee.

  4. They cannot be converted to qualified plans later, and so are difficult to mobilize in case of change of employment.

  5. The fine print of the plan needs to be carefully understood, as it can sometimes leave important loopholes to make it difficult for the employee to claim the benefit in case of a dispute.

Choice of Non-Qualified Plans

Non-qualified plans are the preferred mode for providing supplemental benefits to the highly compensated employees that cannot be provided sufficient benefits under the qualified plans prescribed by Internal Revenue Code, due to the limitations on contributions. Their flexibility allows the employee to opt for a plan designed to take care of her needs. However, they do not provide the same tax benefits as qualified plans, and hence are not a preferable option in case of large number of employees
 



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