Accumulated Earnings and Deferred Compensation

Types of Nonqualified Plans

Most compensation situations that involve benefits for a limited number of executive employees and no preferential tax treatment are nonqualified plans. There are a wide variety of nonqualified deferred compensation plans – from individual contracts with a specific employee to more general employer pay plans.

Individual contracts may be established to meet the combined needs of the employee and the organization.

Let’s examine some of the more common employer plans:

• Excess Benefit
• Top Hat Plans
• Supplemental Executive Retirement Plan (SERP)
• Rabbi, Springing, and Secular
• Stock Options
• Phantom Stock
• Stock Appreciation Rights (SARs)
• Restricted Stock
• Golden Parachutes

Excess Benefit Plans

Excess Benefit Plans are nonqualified deferred compensation arrangements designed to supplement qualified retirement plans. They accomplish this by making-up for the benefits unavailable in the base qualified plan due to restrictions on qualified plans. When an organization wishes to reward highly paid employees with benefits greater than those allowed under ERISA, it may do so by adding on an excess benefit plan.

Excess benefit plans may be either unfunded or funded.

• Unfunded. An unfunded excess benefit plan is exempt from all ERISA requirements.
• Funded. A funded excess benefit plan is subject to ERISA’s reporting and disclosure provisions, administrative provisions, and fiduciary standards.

Example: Joe earns $250,000 per year and participates in a qualified defined contribution profit-sharing plan at work. Code Section 415 will allow Joe and his employer (together) to contribute no more than the lesser of $72,000 or 100 percent of Joe's annual compensation into the profit-sharing plan for 2026. Since $250,000 is more than $72,000, only $72,000 may be deposited into the qualified account this year. The company wants to reward Joe with $90,000 from profit-sharing so Joe's employer establishes a nonqualified unfunded excess benefit plan with $18,000.

Top Hat Plans. An umbrella term for plans that are reserved for a select group of management or highly compensated employees and do not receive preferential tax treatment like qualified plans. A highly compensated employee (HCE) is an employee who owns 5% or more of the company, in the current year or the previous 12 months, for which they work, or who makes more income than a certain amount set by the Internal Revenue Service (IRS), which is $160,000 in 2026. For tax purposes, HCEs contribute proportionately less in tax deductible earnings to a qualifying retirement plan. This is because IRAs and other retirement plans do not qualify for tax advantages if their structures seem to favor highly compensated employees more than other employees.

A Top hat plan is a nonqualified deferred compensation plan. The employee defers bonus or salary into the plan to fund future benefits. Some examples:

Deferred bonuses

The simplest form of deferral is postponing the receipt of an annual bonus and having it paid out later over several annual installments. If an employee opts to defer the entire bonus amount and if the bonus is unfunded, then the tax consequences of the bonus payment may also be delayed.

Q:When is a deferred bonus plan most useful?

A: When the person is retiring and will have lower income in future years.

Supplemental Executive Retirement Plan (SERP)

SERPs are entirely funded by the employer and are usually paid in the form of a defined benefit. A SERP is a nonqualified deferred compensation agreement between a company and select key employees in which the company agrees to provide a specified benefit amount at retirement, or should the employee die, become disabled or terminate employment.

SERPs can be either:

• defined contribution plans
• OR
• defined benefit plans