Its just before three oclock in the afternoon and Im driving down Route 128 South in Massachusetts. A friend and longtime CPA client, Tom Barrows (pseudonym), calls to give me a referral to a Brian McCarthy (pseudonym), sole owner of ABC Corp.
During the call, Barrows tells me McCarthy is concerned about his companys retirement benefit plan and his desire to “plan for the future.” Later, after arranging an initial interview, I enter the office of McCarthy, a well-dressed man who greets me with a warm smile and firm handshake.
The Initial Interview
LS: Im glad to be here to discuss your companys retirement benefits and your concerns about planning for the future.
BM: Im 58 years old and, during the past 35 years, have built a multimillion-dollar enterprise from scratch by offering a good product at a fair price, and by treating my customers and employees as if they were the most important people in the world to me.
My concerns are as follows: First, while my three children are in the business, I also have two key people whom I cannot afford to lose to the competition. Second, while I plan on being active in the business well past ones normal retirement age, I want my children to own the business. I also want to ensure that the business continues to support my wife and me over our lifetimes.
I have a plan, protected with life insurance, stipulating that each of my children will inherit an equal portion of the business upon my death. The two employeesSteve, who is 42 and head of sales; and Vicki, who is 38 and chief of operationsare very capable people who share our business values.
As with other employees, we offer these two individuals a pension and 401(k). But given todays market conditions, I want to ensure that they can retire comfortably.
LS: Brian, you have expressed an interest in a strategy that would reward your key peoples value, performance and loyalty using a supplemental retirement benefit. This represents a win-win situation for you and them. Would you agree with my assessment thus far?
BM: Yes. However, I am concerned about locking myself into a plan for Steve and Vicki or otherwise creating a discrimination issue. Also, I want to ensure the plan doesnt cost too much and is tax-deductible.
LS: Brian, creating a supplemental retirement plan exclusively for Steve and Vicki should not be about tax-deductibility. In fact, as with all such plans, you will pay taxes, one way or another. You need to shift your focus to maintaining high performance, enhancing the retirement income of those in leadership positionsSteve and Vickiand helping to grow the company.
Presenting the Solution (Two Weeks Later)
LS: Brian, I have prepared a supplemental executive retirement plan, or SERP, that I believe will satisfy all of your requirements. Funded with life insurance, the program should also be attractive because it offers additional benefits.
I proceed to outline the strategy as follows:
The agreement. You and your employees, Steve and Vicki, enter into a agreement wherein the business pays a certain amount into a plan. In return, the company provides a benefit to Steve and Vicki at some future date. Your accountant or a third-party can easily administer the agreement and plan at little cost and without significant ERISA requirements.
Purchasing Life Insurance. The company applies for, owns and is the beneficiary of a life insurance policy on both Steve and Vicki. ABC Corp. pays the non-tax-deductible premium and maintains control over the tax-deferred cash values.
Now, lets talk about the pre-retirement and retirement benefits.