NQDC plans - could one work for you?

Are you trying to save for retirement or other future goals? There are many ways to do this such as a 401(k) or 403(b). However, if you max out these plans and your employer offers a nonqualified deferred compensation (NQDC) plan, this might be a smart option for you.

What is an NQDC plan exactly?

This plan allows you to defer much larger portions of your income, and defer taxes on this income until the deferral is paid. It is more like an agreement between you and your employer to defer a portion of your annual income until a specific date in the future. This date could be in five years, 10 years, or in retirement. It has the potential for tax deferred growth, but also comes with risks.

What are the benefits of an NQDC plan?

  • You don’t pay income tax on the deferred portion of your compensation in the year you defer it (you pay only Social Security and Medicare taxes), so it has the potential to grow tax deferred until you receive it.

  • You can defer much more income in an NQDC plan than a 401(k) or 403(b). Setting aside a much larger portion each year can create a more appropriate retirement cushion.

  • NQDC plans aren’t just for retirement savings, as many plans allow you to schedule distributions through the course of your career. This might come in handy for short term goals such as a large purchase or paying a child’s college tuition.

What are the drawbacks of an NQDC plan?

  • Unlike 401(k) plans, you cannot roll the money over into an IRA or other retirement account when it is paid to you. You also cannot take a loan from this kind of plan.

  • Another notable difference from a 401(k), your income is not segregated from your employer’s assets and could be subject to a loss. This plan is essentially a promise by your employer to pay you back.

So, could you benefit from an NQDC plan? Asking yourself these questions might help you with that decision.

  1. Do I max out my contributions to traditional retirement plans?

  2. Will my tax rate change in the future and can I afford to defer compensation?

  3. Is my company financially secure?

  4. Does the plan allow a flexible distribution schedule?

If you are contemplating using a plan like this to defer your annual income, or looking for other ways to help save tax dollars, give us here at BluePoint Financial a call.