Frequently Asked Questions

A deferred compensation plan is an agreement or arrangement under which the payment of compensation is deferred. A deferred compensation plan can be either qualified [401(k)] or nonqualified [409A].  

A nonqualified DCP (often referred to as simply a “DCP”) is a nonqualified employer-sponsored plan, meaning that it is not subject to all the rules, limitations, and regulations of qualified plans, such as a 401(k) or an IRA. The plan is a commitment by an employer to a select group of employees that allows them to defer—pretax—an unlimited* amount of compensation and receive that compensation, plus any earnings, as a distribution at a future time.  

With a DCP, key employees can elect to have a portion of their compensation (e.g., salary, bonus) withheld and paid out at a later date, such as retirement, termination of employment (also known as separation of service) or at specified future date (e.g., 2032). Because these payouts are future expenses (liabilities) for the company, DCPs are typically structured with an offsetting asset to ensure minimal or no P&L impact to the company. This asset is often held in trust to provide protection for plan participants; however, the trust does not protect again the risk of corporate insolvency. **

Companies typically invest the withheld compensation in tax-deferred accounts such as Corporate-Owned Life Insurance (COLI), and the investment of this deferred compensation grows tax-free for the participant. From the company’s perspective, these compensation deferrals are viewed as a future promise to pay.

DCPs are commonly used by employers as a form of executive compensation that can provide tax benefits to both the employer and the employee. In addition, deferred compensation plans can be designed to offer flexibility in the timing and form of payouts to employees. 

*Subject to plan provisions
**It's important to note that deferred compensation plans are not without risks. The deferred compensation is subject to the employer's financial health, and there is no guarantee that the employee will receive the promised benefits in the future.

In simple terms, a qualified retirement plan is one that meets the Employment Retirement Income Security Act of 1974 (ERISA) guidelines, while a nonqualified retirement plan falls outside ERISA guidelines but is subject to compliance with IRS Code Section 409A. 

Check out our 401(k) vs. Deferred Compensation Plan chart for more information about the differences between a qualified plan [401(k)] and a nonqualified deferred compensation plan [DCP].   

The IRS defines a highly compensated employee as someone who meets either of the two following criteria-

• An employee is an HCE if he or she is an employee during the initial plan year (determination year) and is a 5% owner at any time during the plan year or the 12-month period immediately preceding the plan year (lookback year)
• A worker who received $150,000 or more in compensation from the employer that sponsors his or her plan in 2023. For 2024, the total compensation amount increased to $155,000 (for 2025 plans).

• Minimal corporate cost
• Offers a key executive benefit designed to attract and retain employees

Gives your key employee group the ability to set aside more of their compensation (pretax) to meet their financial and retirement goals by allowing them to defer more than $23,000 per year, which is the maximum allowed by 401(k) plans. [Note: The maximum 401(k) contribution level does not include the $7,500 catch-up contribution allowed for employees aged 50 or older.]

Deferred compensation plans are governed by section 409A of the Internal Revenue Code which allows for income deferrals above 401(k) limits if the plan is offered to only a select group of employees.

The American Jobs Creation Act of 2004 added section 409A to the Internal Revenue Code, providing new rules for nonqualified deferred compensation plans. Section 409A provides that unless specified requirements are met, all amounts deferred under a nonqualified deferred compensation plan for all taxable years are currently includible in gross income, to the extent not subject to a substantial risk of forfeiture and not previously included in gross income.

Compliance with 409A is critical because companies must abide by its rules and specific requirements; otherwise, the IRS can assess penalties. These penalties usually affect company employees and shareholders and can result in significant financial loss.

A deferred compensation plan can only be informally funded, but it is not required to be informally funded. Most plans are informally funded with either taxable securities or nontaxable securities. Companies acquire assets to hedge the liability created when a plan participant defers income. Informal plan funding can effectively mitigate and may eliminate any P&L impact by efficiently managing the company's balance sheet.

The corporation will invest in assets and allocate the dollars received to mirror that of the plan participants’ investment allocations. This type of funding approach is called match funding (i.e., the asset is equal to the liability).

The preferred type of informal funding is an asset whose investment earnings are not subject to income tax. This can be accomplished with a nontaxable securities portfolio structure, which is corporate owned life insurance or COLI. Contributions, distributions, reallocation and rebalancing of the asset can be structured in a tax efficient manner.

The investment options in a deferred compensation plan can be robust. The more prevalent investment options will be a fixed rate of return, a market-based rate of return, or both. An example of a fixed rate would be crediting plan participants with a guaranteed 4% rate of return. We offer market-based investment options, which can include a variety of fixed income and equity investment fund managers. These are well-known fund managers such as J.P. Morgan, Goldman Sachs, Vanguard, Fidelity, T. Rowe Price, PIMCO and many others. Plans typically allow 10 to 20 investment fund choices. Custom portfolios based on various levels of risk and return can also be an investment option, as can company stock.

The investment options of the plan participants often mirror the investment funds within the COLI asset structure. For example, if Goldman Sachs has an investment fund within the COLI which is considered a best-in-class fund, then the plan sponsor can make this fund available to plan participants. That fund will earn a rate of return within the COLI asset, and the plan participants will be credited with the same rate of return.

^{For illustrative purposes only. Actual results may vary.1$23,000 is the maximum contribution which may be further reduced due to discrimination testing; employees over the age of 50 are allowed a $7,500 catch-up contribution.2100% of total compensation can be deferred into the plan less deductions for benefits and FICA.3An employee can borrow up to 50% of their vested account balance up to a maximum of $50,000. Nonqualified deferred compensation plans must follow the guidelines of Internal Revenue Code Section 409A. This tax code section covers the timing of nonqualified plan elections, funding, distributions and documentary compliance requirements. Please consult with the appropriate professional regarding your individual circumstance.}

 

A deferred compensation plan is an agreement or arrangement under which the payment of compensation is deferred. A deferred compensation plan can be either qualified [401(k)] or nonqualified [409A].  

Nonqualified deferred compensation plans are governed by 409A of the Internal Revenue Code which allows for income deferrals above 401(k) limits if the plan is offered to only a select group of employees.

The maximum amount of compensation you can defer is dependent upon on your company’s plan and can be as high as 100% (less required deductions). Please refer to your company’s Plan Overview for information.

All types of compensation (e.g., salary, commission, bonus, performance-based compensation) can be deferred, but your selections are dependent upon your company’s plan provisions. Each type of compensation is considered a deferral source. See your company’s plan overview for more information. 

Yes, payout options can range from lump sum to annual installments for up to 20 years. Your payout options are determined by the design of your company’s specific plan.

Yes, each deferral source per plan year is maintained as its own bucket and is viewable on your account in the mapbenefits portal.

You would have a salary bucket for each plan year that you make a salary deferral election. For example, if you participate for three years contributing 10% of your salary for 2023, 2024 and 2025, you would see three buckets in your account.  

No. Because the DCP is a nonqualified employer sponsored plan, there are no fees or penalties when electing to receive a payout before age 59½.

If you have two deferral sources due to be paid out, yes, you may stagger them to fit your financial needs. However, you may not split a single deferral source or bucket, e.g., your 2023 salary can have only one payout election.

Yes, you can modify your payout elections at least 12 months prior to the scheduled distribution date per IRS guidelines. It is important to note that when you decide to modify an upcoming payout, it will be delayed by a minimum of 5 years beyond the current scheduled distribution date.

If you want to change your deferral and/or payout elections for the next plan year, you would need to do so during the open enrollment period.  

Yes, you can modify your payout elections at least 12 months prior to the first installment date per IRS guidelines. Making a payout modification request would push out (for that bucket) all installments associated with that payout. Note that all installments in that bucket will be delayed by a minimum of 5 years from the current first (delete) installment date.  

You may reallocate your account as frequently as you want. Any changes you make will be processed on the effective date of the next payroll period. 

Your company has chosen funds from which you can elect your investment selections. If you would like to inquire about different fund options, please feel free to reach out to us to initiate the research request by calling your Client Relationship Manager at 813-367-1111 or by emailing mezrahclientservices@mezrahconsulting.com.

There may be a payout election that allows you to receive your account balance before retirement, but please refer to your company’s Plan Overview for additional information and/or contact your Client Relationship Manager.

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