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Question about deferred compensation plan

My company is offering me the chance to defer part of my compensation in a deferred compensation plan. The key features include:

1.It's a nonqualified plan (if the company goes belly up I am in line with other creditors, however this is a large, well-established company, so that risk seems minimal).

  1. I can create several accounts with different allocations AND different payout elections (which can be lump sum or annual payments over 2 to 15 years).

  2. The account balances will mirror the earnings (or losses) of either the company stock, or any allocation I choose of variable funds. The choices include fixed income funds, a real estate fund, and a half dozen or so equity indexes, including major US indices, the EAFE and an emerging markets fund. They are mostly ishares ETFs.

Here's how I'm looking at it, I'm wondering what I might not be thinking of-

The benefits include shielding the income I defer from income taxes (though apprently not from FICA). Earnings would also be tax-free until I start taking payments. This is good.

The risks are that if I end up needing the money before I retire, I will be taxed at the same or a higher rate as I am now (assuming my compensation doesn't decrease). There is also the risk (in my mind it's a likelihood) that tax rates overall will have to increase during the next ten or fifteen years. There's also the aforementioned risk of letting the company hold on to the money (i.e. them becoming insolvent or bankrupt).

However, I could also look at the deferred compensation as a kind of insurance policy against getting laid off in a major recession, or becoming disabled, in which case I might be temporarily in a lower bracket even before I retire.

Are their other risks and benefits I haven't thought of? Thanks in advance for any input you can provide.

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Reply to
oliviagail
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Count your blessings, a DC plan can be an excellent long-term benefit that sets you up for early retirement with uninterrupted income.

You didn't mention tax/regulatory risk, the regs on these have been in flux for several years. Find out exactly what your payout date/method options are, and when/how you can change them, and pick the dates & payout schemes for your sub-accounts carefully -- you may have to live with them. There used to be a lot of flexibility with changes but it's being reduced. And the scheme may be changed in the future, given that DC (409A) plans are used strictly by high-income earners...they could be an easy target for a Congress seeking tax hikes.

You seem to be aware of the bankruptcy risks associated with the plan and that's of course something to keep an eye on constantly.

Be sure you're clear about the results of separation from service. Lump-sum payout of all accounts (i.e. potentially a huge tax hit) but with exceptions for retirement...so be clear also on what age(s) qualify for retirement and make sure that fits into your life plan. Or, you might make use of that -- it could provide you an income source for a single year, if you want to take time off sometime between jobs. Just don't quit during a month that makes that lump-sum payout land on top of a year's worth of salary income.

Company stock in a DC plan really concentrates your risk in the company. Granted many people have build tremendous wealth that way, but there's something to be said for diversifying your investments in case your job/company go belly-up, or simply underpeform the alternatives.

You do pay FICA (really, Medicare) taxes but the effects on the tax return can be substantial. This is all marginal income that is being deferred and the typical DC participant might be saving 45+ cents on the dollar in taxes, factoring in state & federal taxes, and phase-outs pegged to AGI.

-Tad

-------------------------------------- Misc.invest.financial-plan is a moderated newsgroup where Moderators strive to keep the conversations on-topic for financial planning. Other posting guidelines include a request for brevity and another for trimming posts to which we respond. For all of the other tips and suggestions, see "FROM THE MODERATORS: Posting to misc.invest.financial-plan", a weekly post now on the Newsgroup.

Reply to
Tad Borek

Thanks, Tad

-------------------------------------- Misc.invest.financial-plan is a moderated newsgroup where Moderators strive to keep the conversations on-topic for financial planning. Other posting guidelines include a request for brevity and another for trimming posts to which we respond. For all of the other tips and suggestions, see "FROM THE MODERATORS: Posting to misc.invest.financial-plan", a weekly post now on the Newsgroup.

Reply to
oliviagail

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