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Impact of the SECURE Act 2019 on NQDC Plans and Retirement Distribution Elections

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This Fulcrum Partners Executive Benefits Advisory Report, “Impact of the SECURE Act 2019 on NQDC Plans and Retirement Distribution Elections,” addresses effects the SECURE Act will also have on nonqualified deferred compensation (NQDC)plans, specifically looking at the matter of retirement distribution elections.

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Impact of the SECURE Act 2019 on NQDC Plans and Retirement Distribution Elections

  1. 1. Fulcrum Partners LLC fulcrumpartnersllc.com . Impact of the SECURE Act 2019 on NQDC Plans and Retirement Distribution Elections A Fulcrum Partners Executive Benefits Advisory Report
  2. 2. Page -2 No part of this document may be reprinted without the express written permission of Fulcrum Partners LLC. Backstory The SECURE Act of 2019 was signed into law by President Trump on December 20, 2019. SECURE, which is an acronym for “Setting Every Community Up for Retirement Enhancement,” was a bipartisan initiative to update and expand aspects of defined contribution (DC) retirement plans, with the intention of making them more accessible to employees and at the same time, less complex for employers. To this end, much of the information published about the new law has focused on how the SECURE Act affects a taxpayer who inherits one of the most widely used defined contribution plans, the individual retirement account (IRA). In contrast, this Fulcrum Partners Executive Benefits Advisory Report, “Impact of the SECURE Act 2019 on NQDC Plans and Retirement Distribution Elections,” addresses effects the SECURE Act will also have on nonqualified deferred compensation (NQDC) plans, specifically looking at the matter of retirement distribution elections. NQDC plans serve as a way employers or plan sponsors can offer key employees compensation that can be deferred for payment at a specific time or event in the future. Nonqualified plans are not bound by most of the requirements of the Employee Retirement Income Security Act (ERISA). Exemption from most of the ERISA nondiscrimination rules and issues relevant to qualified plans, positions an NQDC plan to provide opportunities for select employees to make up or recoup benefits lost because of restrictions on qualified plans. NQDC
  3. 3. Page -3 No part of this document may be reprinted without the express written permission of Fulcrum Partners LLC. plans are, however, subject to other select guidelines including Internal Revenue Code (IRC) Section 409A. IRC Section 409A: No Need to Take Your Lumps Section 409A was added to the Internal Revenue Code on January 1, 2005. It comes under Section 885 of the American Jobs Creation Act of 2004 and provides guidelines for the timing of deferrals and distribution of nonqualified deferred compensation. The terms of Section 409A require that plan participants elect timing and form of their retirement payout. However, 409A does not require that the payout be taken as a lump sum payment, even though many plans default to this timing. NQDC Plan participants have options. For many participants, the need to explore those options becomes all too real as retirement approaches. “The younger you are when you choose the terms of your plan,” said Bruce Brownell, Fulcrum Partners Managing Director & Partner, “the more likely you are to select lump sum distribution. The older you become, the more likely you are to regret that decision.” Experience tells us that many plan participants who have elected a single lump sum distribution later lament their choice. As they approach retirement, they realize that the lump sum distribution vaults significant income into the highest marginal tax bracket and doesn’t provide a tax efficient income stream. Multiple Bucket Plans and Class Year Plans Many NQDC plans allow only one retirement distribution election, providing plan participants with only one bucket. All money within a single bucket follows the same distribution election. If that’s how your plan works, consider a multiple bucket approach, with a unique payout schedule for each bucket, providing increased flexibility and potential tax savings. For example, three to five buckets with unique distribution characteristics could allow for a combination of lump sum, 5 annual
  4. 4. Page -4 No part of this document may be reprinted without the express written permission of Fulcrum Partners LLC. installments, or 10 annual installments. Each bucket can have its own asset allocation, which makes sense given the diverse time frames. Even more flexible, is a class year approach for better management of payout timing and amounts. In a class year approach, a plan participant elects discrete distribution schedules year by year. For example, in the 2021 Plan Year the participant may elect lump sum. But for the 2022 year the election could be 5 annual installments for 2022 deferred amounts. Most plan administrators can support such a design. The question is: Do your plan documents allow it? Under the statute, plan participants may choose to re-defer money up to thirteen months prior to their actual retirement, changing the timing and form of the distribution. Excluding payment triggered by disability or death, the participant is then not permitted to access the deferred money for five years beyond the date he or she would have received the original payment election. Executives may find that pushing out access to NQDC plan money by five years is a more beneficial and strategic option than receiving that money as a lump sum payout at a time when the executive is in the highest tax bracket. From early retirement to executives working well into their seventies and eighties, work and retirement patterns are changing[i] , becoming increasingly varied. Strategically re-deferring money, creating multiple buckets with differing payout schedules or through the election of a different pay out schedule for each year can be a tax-favorable decision. A specific example of how the passage of the SECURE Act directly impacts deferred compensation plan participants includes those executives who intend to retire at age 65 and have elected to receive their deferred compensation in five annual installments. By extending the RMD (required minimum distribution) for qualified plans by two years, the SECURE Act changes required distribution timelines from April 1 of the year following the year the participant reaches age 70½ to age 72. In other words, individuals who attain age 70½ after December 31, 2019, will not be required to take mandatory distributions until April 1 of the year following the year in which they attain age 72. With this distribution timeline change in place, (effective for all distributions required to be made after December 31, 2019) plan participants may want to elect distribution over a seven-year period, thus better filling any gap between retirement and RMD.
  5. 5. Page -5 No part of this document may be reprinted without the express written permission of Fulcrum Partners LLC. Timing Matters. So Does the Big Picture Pragmatically, “if you’ve seen one plan…you’ve seen one plan.” “Solutions are bespoke,” observed Brownell. “They call for doing an in-depth evaluation of all of an individual’s assets and asset timing, laid out on a spreadsheet, in order to develop an optimal solution.” Thoughtfully and creatively designed plans help ensure that neither executives nor plan sponsors find themselves boxed in or lacking options. With many of the provisions of the SECURE Act effective for plan years beginning after December 31, 2019, plan advisors and participants should re-evaluate individual situations in consideration of the potential for re-deferrals to improve cash flow and tax flow. If your plan is too restrictive in design, why not consider adding the flexibility that the 409A statute allows? The team at Fulcrum Partners is available to provide further clarity and customized and creative solutions, helping sponsors and participants turn their plans into viable and effective retirement strategies. __________________________ [i] 2019 Global Human Capital Trends. https://www2.deloitte.com/content/dam/Deloitte/us/Documents/human-capital/us -the-retirement-landscape-has-changed-are-plan-sponsors-ready.pdf “Recent trends in employment have driven changes in retirement. What once was a world in which employees worked until a “normal retirement age” of 65 is quickly becoming a thing of the past. As the 2019 Deloitte Global Human Capital Trends report indicates, the adoption of the alternative workforce is becoming more common. Due to the tight labor market and the need for skilled workers, there are more opportunities than ever for employees who would otherwise be contemplating or beginning retirement.”
  6. 6. Page -6 No part of this document may be reprinted without the express written permission of Fulcrum Partners LLC. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, accounting, legal or tax advice. Any tax advice contained herein is of a general nature. You should seek specific advice from your tax professional before pursuing any idea contemplated herein. ABOUT FULCRUM PARTNERS LLC: Fulcrum Partners LLC (https://fulcrumpartnersllc.com) is one of the nation’s largest executive benefits consultancies. A wholly independent, member-owned firm, Fulcrum Partners is dedicated to helping organizations enhance their Total Rewards Strategy. Founded in 2007, today the company has 13 nationwide offices and more than $7B in assets under management. Learn more about the Fulcrum Partners executive benefits advisory team at Fulcrum Partners Managing Directors nationwide directory. Fulcrum Partners is an independent member of BDO Alliance USA.

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