Capping Tax-Free NQDC

As the GOP searches for ways to offset the costs of extending the 2017 tax cuts, many different proposals have been floated to limit the value of tax-preferred employee benefits.  One such proposal would put a cap on the value of funds that can be accumulated tax-free via an employer-sponsored deferred compensation arrangement.  This type of benefit generally allows a taxpayer to defer a portion of their otherwise available compensation and simultaneously defer taxation on those funds until the employee actually receives the income.  Often, deferred compensation plans allow the employee to defer taxation on the compensation until they have reached retirement.

We asked two professors and authors of ALM’s Tax Facts with opposing political viewpoints to share their opinions about proposals to put a cap on the amount of tax-free nonqualified deferred compensation a taxpayer can accumulate.

Below is a summary of the debate that ensued between the two professors.

Their Votes:





Their Reasons:

Byrnes: Nonqualified deferred compensation is generally designed to provide additional retirement income to the highest income taxpayers, deferring payment of taxes until they reach retirement.  By capping the amount that can be accumulated tax-free over the years, we'd be raising important revenue currently that can support the efforts to maintain Trump's tax cuts for all Americans.

Bloink: Proposals to cap the amount of nonqualified deferred compensation may be a start, but this plan wouldn't go nearly far enough in working toward ending tax avoidance loopholes for the wealthy.  Many taxpayers who benefit from deferred compensation arrangements are relatively high earners, but they're by no means limited to the wealthiest Americans.  In fact, most participants in deferred comp plans are simply employees who are looking to catch-up on their retirement savings.

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Byrnes: Democrats are always complaining about loopholes that allow the wealthiest taxpayers to avoid paying their fair share--this would close one legal tax-avoidance door and use the current revenue boost to extend tax cuts for the benefit of all Americans.  It seems like a no-brainer when we evaluate the benefits of limiting the value of this tax break.

Bloink: We have to remember that any amounts deferred under these arrangements are eventually taxed, typically when the employee retires or actually gains access to the funds--much like any ordinary retirement savings vehicle.  The long-term revenue producing impact of a cap on tax-free deferred compensation accumulation wouldn’t be nearly significant enough to offset the major tax cuts the Trump administration is promising to the ultra-wealthy in this country.

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Byrnes: Many participants in deferred compensation plans don’t actually receive the compensation until they’ve reached retirement and dropped into a lower tax bracket.  It’s obvious that these deferred comp arrangements have a significant negative impact on federal revenue streams for the benefit of the highest-income taxpayers out there.  Ensuring that the amounts accumulated in these plans are limited will substantially increase federal revenue streams as we’re working toward a new tax reform package later this year.

Bloink: What we really need are income restrictions so that the highest income taxpayers aren't able to manipulate this often-valuable deferred compensation system to avoid paying taxes.  Capping the tax-free benefit alone would only limit valuable benefits to ordinary, hardworking Americans who are responsibly looking for tax-preferred ways to fund their own retirements—and further limit options for business owners who are searching for options to motivate and retain their valuable employees.