Supplemental Executive Retirement Plans

As a Non-Qualified Deferred Compensation plan can serve as a retirement planning bridge to accompany qualified 401(k) plans, so too can a Supplemental Executive Retirement Plan (SERP) serve as an extension of a company’s Qualified Defined Benefit Pension Plan. SERPs may also be initiated as a stand-alone benefit for one or more executives, to replace other retirement funds that may have been forfeited when leaving another company.

Another trend today is the use of Account Balance SERPs. With these programs, discretionary or performance-tied contributions are made to the executive’s account, based on a financial performance target (e.g., 25% of salary if profitability exceeds a pre-established threshold).

With a SERP, the employer chooses who participates, the level of benefits, the types of benefits, and the plan provisions. The trade-off for flexibility is that the participants’ benefits are subject to the employer’s creditors.

A SERP usually is structured as follows. The employer and the employee enter into a contractual agreement where the employer will provide pre- and/or post-retirement benefits.  This can be either a specified dollar amount or a benefit tied to a Qualified Pension Plan, which is often called an “excess pension.” The employer accrues the retirement benefit expense.

Upon retirement, the employer pays a lump sum or series of annual retirement benefit payments to the employee. This is taxed as ordinary income to the executive in the year it is received and is deductible to the employer in the year it is paid.  If the executive dies before retirement, the employer pays the spouse or other surviving beneficiaries. The payout is similarly taxed as ordinary income to the employee’s heirs in the year it is received and remains deductible to the employer in the year or years in which it is paid.