For High Earners, It’s Time Again to Think About Non-Qualified Deferred Compensation (NQDC)
Deferring income until retirement was a popular option some 10 years ago, but regulations such as IRC 409A made such programs less attractive because of restrictions on distributions and anticipated higher tax rates. However, with the impact of the American Taxpayer Relief Act now being felt, the Affordable Care Act (Obamacare) coming on stream, and higher state tax rates, certain high tax bracket filers facing increases in marginal, Medicare, state, and capital gains rates may wish to consider deferring income tax into an NQDC plan.
As with all things tax related, individuals should always seek out professional advice and this certainly applies to deferrals. Consider, however, that with ordinary income rates going as high as 39.6%, capital gains rates as high as 20%, and additional Medicare taxes of 0.9%, the idea of deferring income on a pre-tax basis (as well as deferring tax on the accumulation) may represent significant tax savings and more retirement income. This is especially so as even high wage earners may be paying taxes at lower rates after retirement and, as such, their compounded earnings on the investment of deferred income become even more meaningful.
It is wise to remember that under 409A rules deferrals are fixed under your elected payment structure and marginal tax rates can rise in the future. Also remember that deferred amounts are subject to creditor claims, if your company files for bankruptcy protection. However, even if you only realize a 5% return on your deferred income and marginal rates go up to 45%, you still break even in less than 5 years. So, maybe it is time again to “think about deferrals” and to speak with your tax advisor.