Nonqualified deferred compensation plans: Key to drawing top talent

Employers who offer nonqualified deferred compensation plans say they include the plans in their benefit offerings as part of their efforts to attract and retain key talent – specifically highly compensated corporate executives – in a tight labor market, according to a new survey by the Plan Sponsor Council of America of 135 employers who offer the plans.

Nevin Adams, chief content officer for the American Retirement Association, said employers are looking for new and creative ways to engage with talent and “benefit programs are an integral part of that positioning.” He said NQDC programs offer flexibility in design and funding, helping create attractive benefit packages. Nearly one-in-five (19.7%) of the respondents in the survey, which was sponsored by Lincoln Financial and Principal Financial Group, said that employee participation in their NQDC plan increased in 2022 compared to the previous year.

“NQDC plans remain a distinguishing factor among employers, particularly for key hires – both their existence and the potential benefits, which can be customized to meet unique needs,” Adams said. “Indeed, that customization is key to their effectiveness, both in terms of the employer objectives and employee needs.”

Nonqualified deferred compensation plans allow highly compensated workers to defer a higher percentage of their compensation than they can using a qualified retirement plan. NQDC plans mean that participants do not pay income taxes on that deferred portion of their compensation until they receive it. By receiving a portion of their earnings in a later year, the employees will pay less in taxes the year that they earn the compensation and provide them with income in the future. Often, that income comes after they have left the workforce and may be in a lower tax bracket. Employers often offer NQDC plans only to executives and other workers with high income.

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In total, 87.9% of respondents to the survey say they have a NQDC plan to offer a competitive benefits package, while 83.6% of respondents say they have a NQDC plan to retain eligible employees – the top two motivations for having a plan among those surveyed. 28

As part of retention efforts, nearly 40% of plans have a bad actor forfeiture clause and nearly 30% have a non-compete provision that ensures the employee forfeits their NQDC benefit if they leave to work for a competitor, according to the survey.

Among the organizations surveyed, just 5.6% of their total employees are eligible to participate in an NQDC plan. The main criteria for plan eligibility is job position or title at more than two-thirds of the employers offering a plan. More than 60% of employees eligible for the programs opt to participate, deferring an average of 10% of base pay and 25% of bonus pay. Two-thirds of plans set funds aside to be prepared to cover their future obligations. More than half of the organizations offer NQDC-specific plan education for eligible employees – including 40% of large organizations and 20% of organizations overall making it part of their financial wellness program.

NQDC plans as a retirement benefit?

Adams said NQDC plans can be considered a retirement benefit, though they typically are positioned as a compensation benefit.

“But as a retirement benefit they do permit – as the PSCA survey results suggest – employers to ‘make up’ retirement savings gaps created by the application of nondiscrimination testing and benefits limits imposed on qualified plans,” says Adams. “The federal benefit dollar limitations don’t take into account regional pay differences, and individuals in certain parts of the country (New York/Connecticut, or L.A.) can be at relatively modest pay levels, but still find themselves limited in what they are able to save for retirement based on the federal rules. NQDC programs can help remedy those outcomes.”

Adams said organizations should work with experts to implement a NQDC plan. Employer satisfaction with the retirement plans declined, as 28% of respondents said they were very satisfied, compared to 38.2% in 2020, according to PSCA.

“The flexibility in structuring these programs can be a great advantage, but it also means that you’ll want to seek the advice of professionals that can help you structure a program that meets your goals and expectations,” Adams said. “Bear in mind as well that it needs to match your organization’s culture in order to be truly effective.”