NQDC Complications and Best Practices

While nonqualified deferred compensation plans are a valuable benefit program, they can also pose unexpected complications for plan administrators and executives, according to commentary made during a webinar Tuesday held by law firm McDermott Will & Emery.

NQDC use has been on the rise in recent years as plan sponsors look for ways to both draw and retain top talent. NQDCs can be offered as an add-on to a 401(k) savings program and, as they are not subject to discrimination testing under the Employee Retirement Security Act, can be offered to select groups of employees.

But just because NQDCs are not under ERISA does not mean they don’t have complications for advisers and sponsors that can, at times, even hinder use, according to Mark Maizel, executive director of nonqualified plans at Graystone Consulting, Morgan Stanley.

Asset Management

One area of concern can be asset liability management of the plans to ensure that participants have access to the funds when they want them.

“I think on the asset liability side it’s just foresight,” he said. It’s important to work with “a consultant that can help you not only on the back stuff, but with all the same due diligence and rigor that you do on the investment side with 401(k) in terms of monitoring expense ratios, looking at performance, looking at the best-in-class funds you may have in there.”

If assets will be set aside, it’s important that asset liabilities are in a tight range, according to Maizel. He said he ensures those parameters are set up front with all his clients to avoid any panicked calls from a CFO or treasurer about rebalancing.

“We know what the terms are, and then we constantly monitor that, so that the system is rebalancing daily participant money,” he said. “The corporations can move money as they set aside money in a rabbi trust. Coordination and integration of that is evaluated by the administrator obviously daily, and then we look at it monthly and quarterly from an investment standpoint and from an asset liability standpoint.”

Participant Needs

Brian J. Tiemann, partner, Chicago at McDermott Will & Emery, said a common “panic call” he receives is when a participant’s circumstances have shifted. They may have made an election at a certain point, but then their situation may have changed. Sooner or later, that participant may want to take advantage of a different choice for the investment’s use than originally planned.

“It certainly can be frustrating for them and disappointing to know that there is a certain amount of inflexibility when we get to that point,” he said. “Communication is such an important piece, especially repeated communication for those that are in the plan over multiple years.”

Tiemann said consistent communication is important so that participants don’t end up in a surprise situation where they have fewer options to change things or be surprised by the tax treatment of the distributions.

Lisa Loesel, partner, Chicago at McDermott Will & Emery, stressed the importance of having people understand the flexibility issue of NQDC plans.

“When rolling out of a plan you have a lot of flexibility, and you can give folks a lot of options,” she said. “When you have a plan that has a lot of these bells and whistles and participants do enrollments for a couple years, they start to think of those options as being something that will always be available to them.”

That’s where a 409A comes into play, Loesel said, referring to a section of the Internal Revenue Code that governs NQDC plans. That rule can make things “really, really stickybecause participants are often locked into their choices. Even though a 409A gives them the option to potentially change some of those decisions, the rules are so complicated that a lot of plan sponsors don’t offer these adjustments.  

“We’ve seen some bounce back to a more simple design just because I think the additional complexity sometimes harms people more than it helps them,” said Loesel.