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Executive Benefit Planning for Non-Profit Organizations

March 03, 2021

Are you putting together an executive benefit plan for your nonprofit? You should be aware of a few things.

Executive Benefit planning for nonprofit organizations is far from simple. The idea of “reasonable compensation” is used to guide compensation and benefit plans for officers, directors, and employees of nonprofits. Ultimately the compensation decisions are decided by the Board, they are responsible for ensuring that the compensation is “Reasonable”. Unlike for-profit organizations, employees of nonprofit organizations cannot receive stock-based compensation, benefiting from the growth of the company.

What else (besides qualified retirement plans) can be provided to all employees?

We commonly see Qualified Retirement Plans being provided to all the employees. Often boards and executives wonder what else can be done? How else can we compensate key individuals?

Nonqualified plans- deferred compensation

Nonqualified plans are frequently used to attract and retain key employees be supplementing an employee’s retirement benefits above what is permitted to be provided in a qualified plan. The most common nonqualified benefit is Deferred Compensation, simply a promise by the employer to provide compensation in the future to the employee.

Nonprofit organizations can offer IRC 457 Deferred Compensation plans to a select group of management, or other highly compensated key employees. Traditionally we see 457(b) “Eligible” Plans – where the employee is taxed only as payments are received from the employer. The 2021 limit for contribution is $19,500.

For select individuals, the employee and organization would like to defer greater than $19,500. A 457(f) “Ineligible” Plan can be a good fit. There are no limitations on the amounts that can be set aside in an ineligible plan, other than “reasonable compensation limitation”. 457(f) plans are subject to 409A reporting.

3 methods of funding NQDC plans

There are three traditional methods of funding NQDC plans.

  1. A “Self Funded” plan allows the employer to pay the obligations from cash flow at the time it is due. While there is no immediate impact to cash flow, it can become problematic in the future when benefits are due.
  2. A “Sinking Fund” is an investment approach where benefits are paid from the fund when executive retires.
  3. Life Insurance is an alternative method of “informally” funding a Deferred Compensation plans. An insurance-based approach can provide Key Person protection for the organization during working years, potentially strong cash value accumulation, and cost recovery at death.

Any other options?

Outside of Deferred Compensation plans, there are methods to reward executives using insurance-based arrangements. Executive Bonus plans and Split Dollar arrangements are often utilized for a select individual(s).

Under an Executive Bonus Plan, the executive would be the owner of a policy and holds all rights within the policy. The premium bonus would be taxable income to the executive and could be grossed up to cover associated taxes. The executive maintains complete control of the policy, naming their own beneficiary and enjoying full access to policy cash values, which could be used on a favorable tax basis to supplement their income in retirement.

Split Dollar arrangements are slightly more complex in nature but offer distinct advantages to the Non-Profit organization, namely control and cost recovery. With this type of arrangement, the employee owns the policy and employer provides a loan each year to pay the premium. The employer is due back premiums paid and often uses the death benefit for cost recovery.

With many creative methods of compensating valued employees of nonprofit organizations, it is important to analyze each situation and discuss the goals. In some situations, the organization may want to strictly reward the employee, where others may want the plan to act as a retention tool with organizational control and cost recovery. The plans put in place today for valued employees can creatively provide financial benefits for individuals long after retirement.

Questions? Contact our wealth management advisors.

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