Non-Qualified Deferred Compensation Rules
Deferred compensation plans come in two basic types: qualified plans and non-qualified plans. The biggest difference between the two is that a non-qualified plan does not have the tax advantages that are included with a qualified plan. Non-qualified deferred compensation plans are beginning to be used by small businesses because they can offer more options than a qualified plan. Payments for deferred compensation are generally made upon termination of employment or retirement.
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Types
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Deferred compensation plans come in two types: elective and non-elective. The most common type of non-qualified deferred compensation plan is elective for an employee. Employers who use an elective plan offer employees the option of deferring a certain amount of compensation, such as bonuses, into a future tax year. Employees will need to make this election before income, bonus payments or other compensation is earned.
Fewer Requirements
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Non-qualified deferred compensation plans have fewer requirements that need to be followed than those of a qualified plan. One type of requirement that does not apply to an non-qualified plan are rules for non-discrimination. This means that a plan can be offered to a select group of employees and not apply equally for all of an employer's employees. Non-qualified plans are also not subject to the reporting requirements of the Department of Labor.
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ERISA Requirements
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Federal laws, such as the Employee Retirement Income Security Act or ERISA, cover pensions plans that are sponsored by an employer that engages in interstate commerce. The definition of a pension plan includes any benefit that is provided for retirement or applies when employment is terminated. As a result, deferred compensation plans fall under this definition. However, employers can be exempted from or avoid ERISA requirements by utilizing a "top-hat" plan.
Top-Hat Plan
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Employers that wish to be exempt from certain requirements of ERISA can choose to use what is known as a top-hat plan. This type of plan, which is maintained by an employer, is unfunded and has been set up for management or a group of highly paid employees. However, employers are required to follow the disclosure and reporting provisions that are included in ERISA.
Tax-Exempt Organizations
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Non-qualified deferred compensation plans are available to employers that also include tax-exempt organizations. However, there are additional Internal Revenue Service regulations that need to be followed. Many IRS regulations apply to how a non-profit organization funds a non-qualified deferred compensation plan. Funding options can include using deferred annuities with after tax income or deferring after tax income.
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