What is a Non-Qualified Deferred Compensation Plan (NQDC)

Shawn Plummer, CRPC

Chartered Retirement Planning Counselor

What is a Non-Qualified Deferred Compensation Plan (NQDC)?

A Non-Qualified Deferred Compensation Plan (NQDC) is a type of agreement between an employer and an employee where part of the employee’s income is withheld and paid out at a later date, typically retirement. This income includes salary, bonuses, or other types of compensation.

How Does an NQDC Plan Work?

  1. Deferral of Compensation: Employees choose to defer a portion of their current income to be paid in the future.
  2. Tax Implications: Taxes on this income are deferred until distribution.
  3. Distribution: Funds are distributed based on the plan’s schedule, often at retirement or a specified date.
What Is A Non-Qualified Deferred Compensation (Nqdc) Plan

Benefits of NQDC Plans

  • Tax Deferral: Employees can defer taxes until the time of distribution, potentially reducing their current tax liability.
  • Retirement Savings: It provides an additional method to save for retirement, especially for high earners who have maximized other retirement savings options.
  • Customization: Plans can be tailored to meet the specific needs of employees.

Risks Associated with NQDC Plans

  • Credit Risk: Funds are not protected from the employer’s creditors; if the company faces financial difficulties, the deferred compensation might be at risk.
  • No Early Withdrawals: Generally, funds cannot be accessed before the predetermined distribution date without penalties.

Example of NQDC Plan

A senior executive earning $300,000 annually decides to defer $50,000 of her salary each year into an NQDC plan. This amount grows tax-deferred until her retirement. Upon retirement, she receives these deferred amounts, which are then subject to income tax.

Key Features of NQDC Plans

FeatureDescription
EligibilityOften limited to senior executives and key employees
TaxationTaxes deferred until distribution
Investment OptionsVaries; often includes a range of choices similar to 401(k) plans
RiskSubject to employer’s credit risk
Access to FundsRestricted access until specified distribution events

Conclusion

Non-Qualified Deferred Compensation Plans offer a way for employees, particularly high earners, to defer income and taxation, aiding in retirement planning. While offering tax benefits and customization, they also come with risks like credit risk and restricted access to funds. Understanding these aspects is crucial in deciding if an NQDC plan is suitable for your financial goals.

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Frequently Asked Questions

Can anyone participate in an NQDC plan?

No, NQDC plans are typically only available to highly compensated employees, such as executives and key employees.

Are NQDC plans subject to contribution limits?

No, NQDC plans do not have to adhere to contribution limits like qualified plans do.

Are NQDC plans risky?

Yes, there are risks associated with NQDC plans, such as the employer’s inability to pay out the deferred income as promised or the funds not being protected in the event of the employer’s bankruptcy or insolvency. Therefore, it’s essential for employees to carefully evaluate the risks and benefits of participating in an NQDC plan and to work with a financial advisor to ensure they understand the implications.

Can employees change their deferral amount or timing?

It depends on the specific plan. For example, some plans allow employees to change their deferral amounts and timing, while others may have restrictions.

How is the deferred income invested?

The investments available in an NQDC plan will vary depending on the specific plan. For example, some plans may offer a selection of investment options, while others may only offer a single investment option.

Shawn Plummer, CRPC

Chartered Retirement Planning Counselor

Shawn Plummer is a Chartered Retirement Planning Counselor, insurance agent, and annuity broker with over 14 years of first-hand experience with annuities and insurance. Since beginning his journey in 2009, he has been pivotal in selling and educating about annuities and insurance products. Still, he has also played an instrumental role in training financial advisors for a prestigious Fortune Global 500 insurance company, Allianz. His insights and expertise have made him a sought-after voice in the industry, leading to features in renowned publications such as Time Magazine, Bloomberg, Entrepreneur, Yahoo! Finance, MSN, SmartAsset, The Simple Dollar, U.S. News and World Report, Women’s Health Magazine, and many more. Shawn’s driving ambition? To simplify retirement planning, he ensures his clients understand their choices and secure the best insurance coverage at unbeatable rates.

The Annuity Expert is an independent online insurance agency servicing consumers across the United States. The goal is to help you take the guesswork out of retirement planning and find the best insurance coverage at the cheapest rates

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