Why Choose a Nonqualified Retirement Plan

The many choices in retirement plans can be confusing for both employers and employees. Nonqualified retirement plans are the gray area of retirement planning, appealing to small businesses and large corporations alike, but for widely different reasons. As an employer or an employee, understanding the nonqualified retirement plan can help you make the best retirement decision.

The Nonqualified Retirement Plan Defined

The "qualified" in qualified and nonqualified retirement plans refers to Internal Revenue Service regulations for corporate retirement plans. Qualified plans must meet IRS standards regarding included employees, and they have tax advantages that nonqualified plans do not, including deductions for the employer and tax-free benefits for the employee. Because nonqualified plans do not need to meet IRS standards, they are less restrictive in nature and can help employers create custom benefit plans for all employees or just highly compensated employees. Nonqualified plans include salary deferment plans, excess benefit or other additional benefit plans, specialized plans such as rabbi trusts or 403(b) retirements for nonprofit organizations.

Why Employers Choose Nonqualified Plans

Nonqualified retirement plans are often offered by small businesses with a limited number of full-time or executive employees or by large corporations that wish to offer additional benefits to top-tier executives. In both instances, nonqualified retirement plans are used as recruiting and retention tools. For small businesses and nonprofits, nonqualified plans offer retirement benefits that can help the businesses compete with larger entities. Large corporations, on the other hand, often use these plans to recruit and retain talent in the upper echelons of management.

Why Employees Choose Nonqualified Retirement Plans

An employee may choose to invest his retirement savings in a nonqualified plan as a way to save additional funds for retirement or because these are the only plans available. When employees are offered the choice between qualified and nonqualified plans, they may choose to put some or all of their retirement funds into a nonqualified plan to diversify their retirement savings or because they have reached their contribution limit for the year in a qualified plan.

Drawbacks of Nonqualified Plans

The chief drawback of nonqualified plans is that they are generally not shielded from a corporation's creditors if the corporation becomes insolvent. For corporations that are not tax exempt, these plans offer no appreciable tax advantages for employers or employees, as opposed to qualified plans, which allow employers to deduct their contributions and employees to contribute pre-tax funds.

Photo Credits

  • Comstock Images/Comstock/Getty Images

Zacks Investment Research

is an A+ Rated BBB

Accredited Business.