Page 50 - MetalForming February 2014

Blackman on Taxes
organization. Let’s take a closer look at each of the four desired benefits.
1) A piece of the action. Typically this is a percentage of the profits in excess of a specific dollar amount. Often, the percentage grows as profits grow. For example, Ed Hustle will receive 4 percent of all before-tax profits in excess of $200,000/yr., and 6 percent of profits exceeding $400,000. If for example the amount earned under the plan for year one year, or any subsequent year, is $21,000, Sam may receive about one-third ($7000) in cash and the balance remaining —$14,000 deferred—invested for Sam’s benefit. When does Sam receive the deferred bonus and the accumulated earn- ings, usually called the side fund? When he becomes disabled, dies or reaches retirement age. When he becomes entitled to collect the side fund, it usually is distributed in equal annual installments, plus the additional investment earnings for that year.
2) Disability. The employee gets paid when sick or disabled, whether for a day or a lifetime. Typically this benefit is covered by long-term disability insurance; the term “dis- ability” must be defined word for word in the agreement, just as it is in the disability-insurance contract.
3) Retirement. The side fund described above supplements any regular retirement or profit-sharing plan. Typically the executive may direct the investment of the side fund, which, until paid to the employee, remains an asset of the employer.
What are the tax consequences? Side-fund earnings are taxable to the employer. When the employee receives a dis- tribution, the company earns a deduction for the exact amount distributed, and the employee must report the iden- tical amount as taxable income.
If the employee leaves for any reason, except because of disability, death or retirement, the entire side fund is forfeited and remains the property of the company. Hence the name “golden handcuffs.”
4) Set amount of money at death. When an owner dies, the family can sell the business—assuming it does not trans- fer to the kids. A similar benefit, really a death benefit, is given to the employee and should be insurance-funded.
We have been creating these nonqualified plans for years. Done right, they work wonders. Often, when an owner does not have a family member to whom he can pass the business, the side fund serves as the down payment by one or more of the key people to buy the business from the owner.
A warning: This article does not attempt to cover every detail and the endless variations for tailoring an agreement perfect for your company and the key people you want included. Always work with an experienced advisor. Years of experience have proved that the right agreement will make your good people even better. However, sadly, there is no agreement we have ever seen that will make a bad employee even a little bit better. MF
48 MetalForming/February 2014
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