Key Employee Compensation Plans
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  • Overview Briefly introduce the topics and their importance.
  • Employment Trends Employers need to consider employment trends and local market factors as they develop their compensation strategies. Employers who offer more benefit and retirement security (i.e., through nonqualified plans) are usually able to retain their key employees. The Importance of Retention People produce profits If you lose your key people, you just may lose your business!
  • Key Employee Needs Accumulation needs include retirement funding, educational costs, and saving for their personal dreams. Protection needs include the need to protect your income (life and disability income insurance), health insurance, etc.
  • Developing a Compensation Strategy Most business owners feel that they are unable (and too busy) to develop a strategy. Therefore, they need to work with you and other professionals. Given your knowledge and factfinding skills, many owners will be receptive to you speaking to key employees or surveying them to help begin the benefit review process.
  • Compensation Professionals Planning is essential. Make sure that the owner identifies the inside team (if any) for you to work with. Recommend that the team meet periodically to review the plan. Larger firms typically have benefit consultants.
  • Compensation and Benefit Options These are the common methods of compensating key employees. Remember, there is no “silver bullet” that solves all problems. The benefit plan must be competitive for the position, industry, and in the local labor market. Salary and Bonus Plans Bonus programs may either be subjective or performance based, there are pro’s and con’s for each alternative. Recognize that certain positions (i.e. sales) may lend themselves to low fixed compensation and greater variable compensation. Deferred compensation plans have become more popular in light of the limited liability of qualified plan and social security to meet retirement needs. Group Insurance Programs Few closely-held companies offer retiree life and health benefits. Absent retiree benefits, owners and key employees are likely to face a reduced standard of living during retirement. Under the tax law, there are limits upon discriminatory group benefits for key employees. Life and disability carveout programs are big opportunities.
  • Qualified Plans The trend is toward defined contribution plans. There are very few owners (and key employees) who are financially independent! Therefore, nonqualified plans are essential. Nonqualified plans are frequently used because it is usually impossible to maintain your accustomed standard of living based solely upon your qualified plan and social security.
  • Stock-Based Compensation Stock may be an attractive way to compensate (through sale or bonus) some key employees. Ordinarily, the key employee(s) will be minority shareholders. Option plans are usually only offered at larger (public) companies. Phantom stock and stock appreciation rights are forms of nonqualified deferred compensation. Stock Ownership Plans With stock, the future value is uncertain. Employees must perceive stock as valuable. Stock may either be sold or bonused to an employee. While dilution is an issue, a stock plan may result in the owner having a smaller part of a more valuable company. Stock may be purchased back by an appraisal or formula under a buy-sell agreement. Stock Option Plans If the stock declines in value when the option expires, the key employee loses nothing. There are two types of options under the tax law, the tax treatment of each type is covered in the next two slides. Consider using personal life insurance to give the family capital to exercise options at death. This coverage may be funded through personal income, a bonus plan, or split-dollar.
  • Phantom Stock Plans Under a phantom stock plan, the executive does not actually own company stock. The “retirement benefit” is tied to business performance. That may be positive or negative. Use corporate owned life insurance (key person) to informally fund this promise. Suggest the purchase of additional key person insurance for key person purposes. Stock Appreciation Rights Stock appreciation rights are used by larger companies often in connection with stock option plans. Remember, key person life insurance can be used to informally fund these liabilities.
  • Nonqualified Plans These plans are used by many small and large businesses. The plans may be funded by both the business and its key employees. Nonqualified plans contemplate discriminatory benefits for owner/employees and key employees. Mention the three alternatives and state that each plan will be discussed separately.
  • Bonus Plans Simple, flexible, tax deductible. Employer pays all or part of the outlay. Variety of product choices. Limited “golden handcuff” potential. How Are Bonus Plans Used? Underscore that key employees have different accumulation and protections needs and that bonus plans are a simple and attractive solution. The policy is portable, a key benefit.
  • Pro’s and Con’s of Bonus Plans Discuss the pro’s and con’s.
  • Pro’s and Con’s of Bonus Plans Discuss the pro’s and con’s.
  • Split Dollar Life Insurance Split Dollar plans contemplate a life insurance need. Economic benefit costs are often a fraction of individual term of Sec. 79 Table I rates. The employer’s cost under a Split Dollar Plan is the loss of the use of it’s money. How Are Split Dollar Plans Used? Discuss the common uses of Split Dollar.
  • Pro’s and Con’s of Split Dollar Plans Discuss the pro’s and con’s of Split Dollar.
  • Deferred Compensation Plans Retirement income is the chief financial concern of many executives today. Life insurance (key person) can be used to enhance pre-retirement death benefits, offset benefit costs, and can accumulate cash values for benefit needs. Supplemental plans are employer funded in contrast to deferral plans under a deferral plan, the key employee defers salaries or bonus awards.
  • Pro’s and Con’s of Deferral Compensation Plans Discuss the pro’s and con’s. Biggest potential drawback to an employee is that the employee is a general creditor of the business in the event of bankruptcy.
  • Employment Agreements Employment agreements can be a valuable tool to protect a business. These agreements are to be drafted by counsel who is knowledgeable about local law. Depending upon applicable state law, employment agreements may protect confidential information, provide for exclusive services to a single employer, and contain non-compete provisions (if these restrictions are reasonable).
  • Acquisition Tips Growth companies must develop compensation and benefit strategies which position the company for growth.
  • IPO Tips Investors purchase stock based upon the strength of the management team. There is a trend toward equity based (stock and options) compensation for managers of public companies. Consider the need for nonqualified plans and key person life insurance.

Transcript

  • 1. Key Employees — Compensation Issues
    • Prepared for: Business Owners
    • Presented by: Jack Benke
    • The information provided is not written or intended as tax or legal advice and may not be relied on for purposes of avoiding any Federal tax penalties. Workman Securities Corporation, its employees and representatives are not authorized give tax or legal advice. Individuals are encouraged to seek advice from their own tax or legal counsel.
  • 2. Key Employees — Compensation Issues
    • Overview
      • Key employee retention
      • Compensation strategy
      • Compensation & benefit options
      • Stock-based compensation
      • Nonqualified plans
      • Employment agreements
      • Tips & strategies for acquisitions & initial public offerings
  • 3. Key Employee Retention
    • Employment Trends
      • A changing employer/employee relationship (Consultants)
      • Multiple jobs/careers
      • Less benefit & retirement security
    • The Importance of Retention
      • Turnover is expensive
      • Profitability & growth
      • Key employees are critical to succession planning.
  • 4. Key Employee Retention
    • Key Employee Needs
      • Accumulation
      • Protection
  • 5. Compensation Strategy
    • Developing a Compensation Strategy
      • Build a team of compensation professionals
      • Determine/anticipate business needs
      • Tailor plans suited to key employee needs
      • Review your program on a periodic basis
  • 6. Compensation Strategy
    • Compensation
    • Professionals
      • Benefit Consultants
      • Accounting firms
      • Law firms
      • Insurance & investment professionals
    Attorney Accountant Life Insurance Agent
  • 7. Compensation and Benefit Options
    • Salary & Bonus Plans
      • Competitive base salaries/raises
      • Bonus programs
      • Fixed/variable compensation
      • Current/Deferred Compensation
    • Group Insurance Programs
      • Disability Income Insurance
      • Life Insurance
      • Carve-Out programs
  • 8. Compensation and Benefit Options
    • Qualified Plans
      • The importance of retirement income
      • Defined contribution plans
      • Defined benefit plans
      • Nonqualified plans
  • 9. Stock-Based Compensation
    • Stock Ownership Plans
      • Value (perceived/real)
      • Sales (corporate/shareholder)
      • Stock awards (restricted stock)
      • Dilution
      • Buy back provisions
    • Stock Option Plans
      • Nonqualified options
      • Incentive stock options
  • 10. Stock-Based Compensation
    • Phantom Stock Plans
      • Form of Nonqualified Deferred Compensation
      • Key employees allocated “hypothetical shares”
      • Taxation/accounting treatment
      • Funding options
    • Stock Appreciation Rights
      • Form of deferred compensation
      • Compensation driven by future appreciation
      • Taxation/accounting treatment
      • Funding options
  • 11. Nonqualified Plans
      • Provide accumulation and/or protection benefit
      • Supplement group benefit and/or qualified pension plan benefits
      • Reward and retain key employees
      • Bonus plans
      • Split Dollar plans
      • Deferred Compensation plans
  • 12. Nonqualified Plans
    • Bonus Plans
      • Employer funds all or part of the cost.
      • Life insurance or other financial vehicles
      • Owned by a key employee
    • How are Bonus Plans used?
      • Accumulation and/or protection needs
      • Retirement supplement
      • Supplement group life & disability coverage
      • Fund buy-sell plans
  • 13. Nonqualified Plans
    • Pros & Cons of Bonus Plans - Employer
    • PROs
      • Totally selective
      • Current tax deduction
      • Easy to set up and terminate
    • CONs
      • Limited “Golden Handcuff” potential
      • No cost recovery potential
  • 14. Nonqualified Plans
    • Pros & Cons of Bonus Plans - Employee
    • PROs
      • Employee owns and controls benefit
      • Benefits are portable
    • CONs
      • Bonus not received in cash
      • Employer premium payments are taxable income
  • 15. Nonqualified Plans
    • Split Dollar Life Insurance
      • Life insurance plan
      • Splits the benefits of permanent life insurance between employer and employee
    • How Split Dollar Plans are used?
      • Increase life insurance benefits
      • Supplement group term insurance coverage
      • Fund estate tax or buy-sell needs
  • 16. Nonqualified Plans
    • Pros and Cons of Split Dollar Plans - Employer
    • PROs
      • Totally selective
      • Cash values provide cost recovery options
      • Easy to set up and terminate
    • CONs
      • Premiums are non-deductible
      • Requires an attorney to draft a Split Dollar agreement and corporate solution
  • 17. Nonqualified Plans
    • Deferred Compensation Plans
      • Retirement income
      • Pre-retirement benefits
      • Supplemental plans
      • Deferral plans
  • 18. Nonqualified Plans
    • Pros & Cons of Deferred Compensation Plans -Employer
    • PROs
      • Totally selective
      • “ Golden Handcuffs” potential
      • Life Insurance offers tax-advantaged opportunities for cost recovery.
    • CONs
      • Deferred Compensation requires accrual of plan liabilities.
      • Unfunded or “inadequately funded” plans may create future cash flow problems.
  • 19. Nonqualified Plans
    • Pros & Cons of Deferred Compensation Plans-Employee
    • PROs
      • Supplemental retirement income
      • Many Deferred Compensation plans offer significant pre-retirement death benefits.
    • CONs
      • Employee is a general creditor of the corporation.
      • Supplemental benefits which are tied to risks of forfeiture may never be paid if employee terminates early.
  • 20. Employment Agreements
    • Employment Agreements
      • Key employees
      • Term of years (indefinite)
      • Compensation & benefit provisions
      • Severance benefits
      • Arbitration & assignment
      • Confidential information
      • Non-compete clauses
      • Exclusivity of services
  • 21. Tips
    • Acquisition
      • Consult your compensation professionals before the acquisition.
      • Review and benchmark your entire benefits program.
      • Consider the needs of your business and its key employees.
  • 22. Tips
    • Initial Public Offering
      • Consult your compensation professionals before the initial public offering
      • Review and benchmark your entire benefits program
      • Consider the needs of your business and its key employees