Executive Bonus Plans

The employer pays for a benefit that is owned by the executive. Besides life insurance, the bonus could also take the form of cash, automobiles, or other items of value to the executive. 

With a defined contribution approach, a specified amount (the salary reduction or employer "bonus") is periodically added to a participant's "account," which can be either a real accumulation of funds or simply a bookkeeping account.

Benefits to the Employer:

Can reward key executives

Selective participation is allowed (no discrimination rules)

Costs are tax-deductible

Creation of plan is simple

No administration

Amounts of coverage on various employees can differ

Plan can be terminated without IRS approval or restrictions

A restrictive endorsement can be implemented to limit immediate access to cash values

Benefits to Executive:

Executive owns the policy1 and cash values. If he or she changes employers, the policy is not lost.

Accumulating cash values will help in emergencies, at retirement or for personal investments.

The death benefit may be income tax free. See IRC Sec. 101(a).Proceeds may be used for estate settlement costs.

The benefit payable at retirement or termination of service represents the accumulation in the participant's account. This is similar to the money purchase approach for qualified plans. Nonqualified plans of this type are sometimes referred to as money purchase plans.

Contributions typically are a specified percentage of the employee's current compensation each year. However, the contribution level can also be an amount determined as the annual funding required to meet a "target" benefit level at retirement.  

If the employee's account is only a bookkeeping account, in order for the employee to avoid losing the benefit of investment earnings on the deferred compensation, the employer can guarantee a specified minimum interest rate on the bookkeeping account. Alternatively, the employer can make an annual allocation to the account based on an interest formula or index specified in the plan (usually an index beyond the employer's control such as Moody's Bond Index). Sometimes the rate of return that is guaranteed is tied to the value of the company's stock.