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top hat plan
Old 10-14-2016, 03:21 PM   #1
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top hat plan

Hi all

Well, I never thought I'd be saying this, but I've found myself at last as a "high income earner" who can sign up for a Top Hat or deferred income plan for high earners.

Have any of the rest of you encountered this? I'd be interested in hearing your thoughts. Until the past 2 years I've been a freelancer (with an S corp for a few years). Now I'm earning high income on W2. The taxes suck, no doubt, but i wonder if it's worth deferring until *time unknown.*

I haven't followed the traditional career path, and for all I know I'll end up unemployed in 2 years. The company I'm with is as secure as any major corp, so I'm not too worried about them going bankrupt before I draw. However I'm just not sure it's worth it.

Thanks for your thoughts!
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Old 10-14-2016, 03:27 PM   #2
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depends on the details - how do the monies deferred accrue during the deferral period?
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Old 10-14-2016, 04:31 PM   #3
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I was part of several arrangement like this at my previous employer with the most lucrative being the "top hat" pension plan. Obviously depends on the plan but generally they are designed to hold talent and often pay very nicely to do so.
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Old 10-14-2016, 04:44 PM   #4
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I was part of a tax deferred high income plan at my w*rk. We could put upwards of 50% of our salary but it wasn't federally insured. I was able to sock away a lot of money in a short period of time and the investment gains helped a great deal. I am on a ten year payout (do have to pay tax) and it's like I sold my business. It was a vehicle that allowed me to retire at 60.
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Old 10-15-2016, 06:41 AM   #5
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I participated in a deferred comp plan for several years. I chose to take some of it at retirement, which wasn't smart as it resulted in a big tax bill that year. The rest I chose to take 5 years later (1 year from now). That'll be nice since my income from a part time gig is small so taxes won't hurt too much, and it'll pay for a new Honda Ridgeline pickup I've been eyeing.
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Old 10-15-2016, 08:14 AM   #6
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I participated in these types of plans at 2 employers over 30 years. Very significant enabler for ER. With my first employer, I took payout as lump sum. Big tax bill that year but still had lots of cash to invest which has appreciated significantly. Current employer's plan will be annuitized so I can create a nice pension for myself while keeping taxes down.


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Old 10-15-2016, 08:34 AM   #7
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Quote:
Originally Posted by Bir48die View Post
I was part of a tax deferred high income plan at my w*rk. We could put upwards of 50% of our salary but it wasn't federally insured. I was able to sock away a lot of money in a short period of time and the investment gains helped a great deal. I am on a ten year payout (do have to pay tax) and it's like I sold my business. It was a vehicle that allowed me to retire at 60.
i'm part of one now ... similar to this one. 50% of my salary goes in it. Those dollars would have been taxed at a high rate but the downside is that i would have maxed soc sec out. The deferred income is going to get taxed with soc sec., so that kind of sucks. The other downside my plan has is that there is only one option to invest the $s in ... basic low risk, T Bills etc. It's drawing 1 1/2% of so in this low interest environment. I'm ok with that because most all my other savings is in the stock market. So, it provides the right balance.

I'm having it paid out of 10 years ... so it's perfect for me to bridge me until i can tap into 401Ks.
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Old 10-15-2016, 09:25 AM   #8
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I assume you're referring to a non-qualified deferred compensation plan. I've been in one for years and like others have put money in quite aggressively as it can be a tremendous wealth creation vehicle.

A few thoughts:

1). Remember that you are buying unsecured debt from your company. Swap the phrase "I put 50% of my salary into deferred comp" for "I'm putting 50% of my salary into the unsecured bonds of a single company" and you'll quickly trade the thrill of tax avoidance for the thrill of concentrated risk.

2). Ensure you understand the rules when you leave the company. Some plans force you to take all the money when you leave...which in theory means you could accidentally take money that would have been taxed at a 33% rate each of a couple years and (by stacking it into a single year) put it into a higher bracket. Congress can of course choose to increase/reduce tax rates as well. I believe there is some value to "rate averaging" your income flows over time to hedge wacky political behaviors.

3). Understand the redeferment rules and how they interact with your plan's economics. I believe the IRS requires all plans to mandate a 5 year redeferral period...so, if your employer allows you to keep the money in the plan after you leave, ensure you think about how you ladder the maturity of "new" contributions with the maturity of "redeferrals". Spacing the maturities to keep outflows down in any given year is key to unlocking the long term tax benefits because that's how you effectively shift money from a 40% bracket down into the 20% zones. Reviewing and planning this ladder is now a key part of my annual financial planning process.

4). Remember that you pay social security and Medicare as you go...so if you go all in on a deferral you may actually wind up writing checks to your employer to cover those taxes until you push thru the max on social security. Been there a couple times.

5). I have sort of adopted an approach of using deferrals to offset the gains on my stock and option vesting. It allows me to move money down the company's risk ladder -- I'm still concentrated like when I had the options/stock positions but now the stock has to drop to zero before I get wealth destroyed -- while also managing the tax consequences of that diversification.

Provided you're comfortable with the above, it really comes down to the investment structure of the plan and how you perceive the concentration risk/reward trade offs. If you manage the maturation/tax angle right, it's pretty hard to beat. Our plan pays a generous fixed interest rate which has essentially allowed me to duck the crappy rate environment of the last few years by using the deferred comp plan as my portfolio's bond allocation. But as I'm now cruising into having 35% of my assets in the plan with the ladder stretched out over 8 years, the concentration risk is getting scary even tho my megacorp is financially top notch.

As I noted, I use our plan aggressively, so don't take any of my comments as saying "avoid the plan"... just ensure you understand the ins-and-outs.

Hope that's helpful. YMMV.
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Old 10-17-2016, 01:28 AM   #9
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Thanks everyone, this is really helpful.
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