Entry for November 20, 2006
Ten Common Mistakes Make When Designing Benefit Packages
Despite these new concerns and a more acute awareness of how compensation packages are developed, industry experts find that many companies continue to make a number of common errors when putting together benefits packages, and in particular, nonqualified benefits packages. The outcome, experts say, could harm the executives, the company or both. The following list of common errors made by company provides a summary that will help in building executive compensation packages.
1. Overemphasis on Industry Peer Group. Companies too often look to peer groups within their industry in designing competitive packages for top executives. This was fine a decade ago. In today's marketplace, however, top executives are making more lateral moves from companies outside of their industry. It's no longer good enough to just compete with companies inside of your own industry for executive talent; executive benefit plans must be competitive with those offered all over the globe.
2. Over reliance on Stock Options. Companies are still relying too heavily on stock options, which created significant executive wealth in the ‘90s, but have lost their luster in the last 18 months. Companies therefore need to better balance their packages, educate themselves about other alternatives and create improved strategies to reduce risk.
3. Ceding Plan Control to a Single Executive. Once a plan design is in place, companies often allow executives to take control of plan provisions, with management sometimes becoming slaves to whatever a top executive wants to do with the assets inside the plan. The result is that this lack of central control can harm the overall company plan.
4. Treating Plan Like a 401(k). Companies often use mutual funds to fund their nonqualified plans but then defer to a vendor to run it much like a 401(k) plan. This allows plan participants to shift their individual holdings around, often triggering a taxation risk that could catch both company and participants unaware. In these instances, it is the participant who must pay the tax and the fine, not the company.
5. Lack of Communication. Companies often experience value perception problems when they allot too little time and effort to communicate their executive benefit package fully to executives. This results in executives being unsure of its real value, and a plan that is unsuccessful because of the lack of buy-in from all eligible executives.
6. Lack of Awareness of Source Tax Laws. Often companies are not aware of source tax laws, which exist in a number of states across the country. Source tax laws create a double taxation for the retiree who moves to another state. To reduce this risk, companies should take advantage of plan provisions available to offset this potential tax.
7. Not Being Able to "Trust" the Rabbi Trust. Many companies will design a nonqualified plan utilizing the security provisions of a rabbi trust. However, often notably missing is the provision that the trust be "callable." The rabbi trust is a grantor trust used to secure the company's promise against the company's refusal to pay benefits, but cannot secure the executive's benefit against company insolvency or bankruptcy. With a "callable" provision, the participant can have a right to "call" for the benefit at any time (subject to some forfeiture to prevent all plan participants from being in constructive receipt). This is a critical provision that should be included in a rabbi trust.
8. Failing to Register Plan with the SEC. Many publicly held companies fail to register their plans with the SEC. By not doing this, the company is at risk of a lawsuit from the participant if their deferred compensation plan loses its value.
9. Under communicating the Risk. Many companies have not done a good job in explaining the risks of nonqualified benefit plans to their employees. The outcome of this is often an employee not handling tax withholding correctly or fully understanding the plan's provisions in the event of separation.
10. Creating a "Social Security Syndrome" Plan. Oftentimes, when management sets down provisions for funding a plan, the plan gets designed to pay out handsomely for current top executives but pushes down the plan's financial burdens to future employees and shareholders, for future generations to pay.
Despite these new concerns and a more acute awareness of how compensation packages are developed, industry experts find that many companies continue to make a number of common errors when putting together benefits packages, and in particular, nonqualified benefits packages. The outcome, experts say, could harm the executives, the company or both. The following list of common errors made by company provides a summary that will help in building executive compensation packages.
1. Overemphasis on Industry Peer Group. Companies too often look to peer groups within their industry in designing competitive packages for top executives. This was fine a decade ago. In today's marketplace, however, top executives are making more lateral moves from companies outside of their industry. It's no longer good enough to just compete with companies inside of your own industry for executive talent; executive benefit plans must be competitive with those offered all over the globe.
2. Over reliance on Stock Options. Companies are still relying too heavily on stock options, which created significant executive wealth in the ‘90s, but have lost their luster in the last 18 months. Companies therefore need to better balance their packages, educate themselves about other alternatives and create improved strategies to reduce risk.
3. Ceding Plan Control to a Single Executive. Once a plan design is in place, companies often allow executives to take control of plan provisions, with management sometimes becoming slaves to whatever a top executive wants to do with the assets inside the plan. The result is that this lack of central control can harm the overall company plan.
4. Treating Plan Like a 401(k). Companies often use mutual funds to fund their nonqualified plans but then defer to a vendor to run it much like a 401(k) plan. This allows plan participants to shift their individual holdings around, often triggering a taxation risk that could catch both company and participants unaware. In these instances, it is the participant who must pay the tax and the fine, not the company.
5. Lack of Communication. Companies often experience value perception problems when they allot too little time and effort to communicate their executive benefit package fully to executives. This results in executives being unsure of its real value, and a plan that is unsuccessful because of the lack of buy-in from all eligible executives.
6. Lack of Awareness of Source Tax Laws. Often companies are not aware of source tax laws, which exist in a number of states across the country. Source tax laws create a double taxation for the retiree who moves to another state. To reduce this risk, companies should take advantage of plan provisions available to offset this potential tax.
7. Not Being Able to "Trust" the Rabbi Trust. Many companies will design a nonqualified plan utilizing the security provisions of a rabbi trust. However, often notably missing is the provision that the trust be "callable." The rabbi trust is a grantor trust used to secure the company's promise against the company's refusal to pay benefits, but cannot secure the executive's benefit against company insolvency or bankruptcy. With a "callable" provision, the participant can have a right to "call" for the benefit at any time (subject to some forfeiture to prevent all plan participants from being in constructive receipt). This is a critical provision that should be included in a rabbi trust.
8. Failing to Register Plan with the SEC. Many publicly held companies fail to register their plans with the SEC. By not doing this, the company is at risk of a lawsuit from the participant if their deferred compensation plan loses its value.
9. Under communicating the Risk. Many companies have not done a good job in explaining the risks of nonqualified benefit plans to their employees. The outcome of this is often an employee not handling tax withholding correctly or fully understanding the plan's provisions in the event of separation.
10. Creating a "Social Security Syndrome" Plan. Oftentimes, when management sets down provisions for funding a plan, the plan gets designed to pay out handsomely for current top executives but pushes down the plan's financial burdens to future employees and shareholders, for future generations to pay.
2006-11-21 02:51:16 GMT
