Value of Non-Qualified Deferred Compensation in an Increased Tax Environment

On January 1, 2013, thirteen tax increases occurred.  Among them are an income tax increase to 39.6% for taxable incomes over $450,000 ($400,000 for single filers), an increase of the capital gains rate to 20%, and an additional tax of 3.8% on investment income for taxable income exceeding $250,000 ($200,000 for single filers).

A corporate sponsored non-qualified deferred compensation plan, regulated by IRC 409(A) will assist executives with the accumulation of personal capital on a tax efficient basis. This is illustrated in the following table.

 

 

 

Without Income Deferral

 

 

 

With Income Deferral

With Income Deferral & No State Income Tax in Retirement State of Residence

Annual Savings

$60,000

$60,000

$60,000

Net After-Tax Savings

$36,000

$60,000

$60,000

Earnings Rate

6%

6%

6%

Net After-Tax Rate

3.6%

6%

6%

Accumulation at Retirement

$591,132

$1,480,352

$1,480,352

Net After-Tax Annual Benefit

$75,770

$110,604

$132,506

Increase in Annual After-Tax Income

 

46%

75%

Assumptions:

Above illustration is based on an executive currently age 50, deferring/saving for 15 years and electing a 10-year payout at age 65.

Current Tax Brackets:  
Federal 39.5%  
State 10.0%  
Total 49.5%  

This table compares the retirement funds accumulated by an executive with an after-tax strategy vs. a deferred compensation strategy. The deferred compensation strategy creates 46% more annual after-tax income than the after-tax strategy and if the retirement state of residence (Florida, New Hampshire, etc.) does not have a state income tax, the deferred compensation strategy creates 75% more annual after-tax income. The payout period must be ten (10) years or greater to avoid state income tax in the state where the funds were deferred.

This material is intended for informational purposes only and is not intended to replace the advice of a qualified tax advisor.

Investments in securities involve risks, including the possible loss of principal. When redeemed, shares may be worth more or less than their original value.