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RCG

Benefits Group

Wealth Accumulation Strategies in a Changing World


1|RCG

Introduction About RCG|Benefits Group RCG|Benefits Group (RCG) is a full service executive benefits firm that is committed to helping companies attract, retain, and appropriately compensate and reward their talented executives. This is accomplished first with a thorough assessment of a company’s goals, financial and tax status, and more. RCG’s recommendations are customized to meet each client’s needs. Only then will an innovative and appropriate solution unfold that will meet expectations and deliver the intended results. William L. MacDonald, a renowned expert in the executive benefits industry, founded RCG in 2002. Mr. MacDonald has built a team of compensation and executive benefits specialists that focus on consultative services for nonqualified executive benefit plans. In 2009, RCG joined forces with Benefits Group Worldwide, a 35 year old Los Angeles based executive benefits firm that brought state of the art plan administration capabilities to RCG. Later in 2009, RCG merged with Austin, Texas based National Insurance Partners (NIP) to expand its resources to offer executive compensation consulting services. RCG|Benefits Group delivers world-class service, consulting, asset management, and comprehensive plan administration support. Our system and resources are designed with the necessary tools to effectively manage and oversee plan administration, communication, and education for all types of executive benefit plans.


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The Philosophy of Executive Compensation When people review executive compensation, they usually only discuss half of the story. They tend to focus on the cash and equity side of the triangle and forget about executive benefits. Executive benefits should fit into a company’s integrated total rewards program. These benefits help to balance the total compensation and benefits strategy.

io

n

By combining compensation and benefits, a company can focus more clearly on the objectives and desired behavioral focus of the programs. The following chart provides an example:

at ns pe m Co

s

fit

ne

Be

Salary

Nonqualified Deferred Compensation (NQDC) Supplemental Executive Retirement Plan (SERP)

Bonus

Long-term Incentives

Executive Life and Disability Insurance

Equity

Perks Core Benefits

Note: RCG|Executive Compensation & Benefits Group, Inc. neither acts as legal counsel, tax advisor, nor provides accounting services. Recommendations should be reviewed with appropriate tax advisor or counsel. This report contains proprietary and confidential information belonging to RCG (www.retirementcapital.com). Acceptance of this report constitutes acknowledgement of the confidential nature of the information contained within.


3|RCG

Tax Impact on Income for Retirement Traditional nonqualified plans have failed to hedge against tax increases. For instance, under these plans, contributions and earnings are subject to ordinary income tax at the time of distribution, which must be taken into consideration when reviewing the alternatives. A premise of these plans: defer taxation until rates would presumably be lower. Consequently, participants in those plans have assumed an over-concentration of tax rate deferral risk. Combined marginal income and capital gains tax rates are close to all time lows. If rates increase in the future, it will likely make the strategy of deferring taxable income inefficient.

Top U.S. Income Tax Rates History of U.S. Top Income Tax Rates 100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%

1913

1918

1929

1941

1952

Source: Congressional Joint Committee on Taxation

1963

1982

1988

1993

2009


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Filling

the

Retirement Gap

With people living longer and retiring earlier to more active lifestyles, 401(k) plans and social security payments may not provide enough retirement savings for the highly-compensated. Nonqualified plans are a tax-deferred way to fill the gap; however, one must consider the “unsecured creditor risk” associated with such an alternative. The following is a chart of the retirement savings gap that includes these assumptions: ŠŠ

Executive is currently 45 years of age and plans on retiring at age 65.

ŠŠ

The starting balance of his/her 401(k) plan is $50,000. Contributions are to be maxed (according to income tax laws) until retirement.

ŠŠ

Salary increases 4% year-over-year and social security includes 3% annual cost of living.

ŠŠ

There is an 7% investment return.

Retirement Savings Gap - 80% of Final Salary 401(k) Benefit

Social Security

Additional Income

80% 70% 60%

$210,685

$337,096

50%

$505,644

$842,740

40% 30%

$46,103 $46,103

20% 10%

$67,462

$46,103 $67,462

$67,462

$46,103 $67,462

0% $125,000

$200,000

$300,000

$500,000


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Plan Design What Causes the Retirement Gap? The IRS has put limits on the amounts that can be contributed to a qualified plan (e.g. 401(k)). Qualified plans are also subject to coverage and discrimination testing that may limit both employee and employer contributions to the plans. Qualified plan limitations for 2010 are as follows: 401(k) Retirement Plans ŠŠ

$110,000 of wages earned in the preceding year classifies an employee as “highly compensated”

ŠŠ

Discrimination testing may limit deferrals (i.e., deferrals made by the highly compensated are limited by the amounts deferred by general employees)

ŠŠ

$16,500 maximum deferral ($22,000 if age 50 or older)

ŠŠ

Company contributions are limited to $49,000

ŠŠ

$245,000 maximum eligible compensation limit

Defined Benefit Plans ŠŠ

$195,000 maximum benefit payout

ŠŠ

$245,000 maximum eligible compensation limit

Individual Retirement Accounts ŠŠ

$5,000 maximum contribution ($6,000 if age 50 or older)

ŠŠ

Employees with adjusted gross income greater than $105,000 (married) or $63,000 (single) cannot deduct contributions to an IRA account if participating in a qualified retirement plan (IRC Sec. 408)

What are the alternatives for filling the retirement gap? ŠŠ

Personal investment – you can take your after-tax income and invest in your own strategy;

ŠŠ

Participate in a pre-tax nonqualified deferred compensation plan sponsored by your employer;

ŠŠ

Participate in the Professional Security Plan, an after-tax wealth accumulation strategy;

ŠŠ

Do nothing.


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Alternative Choices Personal Investment Alternative Age

Pre Tax Investment

Annual Investment

Account Value

45

378,854

227,312

238,769

46

378,854

227,312

489,572

47

378,854

227,312

753,015

48

378,854

227,312

1,029,736

49

378,854

227,312

1,320,404

50

378,854

227,312

1,625,721

51

378,854

227,312

1,946,426

52

378,854

227,312

2,283,295

53

378,854

227,312

2,637,142

54

378,854

227,312

3,008,823

55

378,854

227,312

3,399,237

56

378,854

227,312

3,809,327

57

378,854

227,312

4,240,086

58

378,854

227,312

4,692,556

59

378,854

227,312

5,167,829

60

378,854

227,312

5,667,057

61

378,854

227,312

6,191,446

62

378,854

227,312

6,742,263

63

378,854

227,312

7,320,842

64

378,854

227,312

7,928,582

To fill the void for our sample $500,000 salaried executive (discussed on page 4), there is a gap of 69.22% on $729,174 of additional income. Using personal income will require annual savings contributions of $378,854 (76% of current salary) at 7% (5.04% after tax) for 20 years to meet his or her goal. The after-tax benefit is equal to $729,174 for 15 years.

Assumes 28% blended tax rate. Note: Hypothetical taxable investment for illustration purposes only.

Pros

Cons

Participant is in control of assets not subject to employers creditors

Must pay current tax on contribution and tax on investment earnings

Can select own investments

May not have access to certain asset class and buying power (cost of funds) of employer sponsored plan

Paying taxes up front minimizes tax cost in future

Tax rates on investment income could rise, i.e. 38% median tax starting in 2013


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Nonqualified Deferred Compensation Alternative Age

Pre Tax Investment

Annual Investment

Account Value

45

180,749

180,749

193,401

46

180,749

180,749

400,341

47

180,749

180,749

621,766

48

180,749

180,749

858,691

49

180,749

180,749

1,112,200

50

180,749

180,749

1,383,456

51

180,749

180,749

1,673,699

52

180,749

180,749

1,984,259

53

180,749

180,749

2,316,559

54

180,749

180,749

2,672,119

55

180,749

180,749

3,052,569

56

180,749

180,749

3,459,650

57

180,749

180,749

3,895,227

58

180,749

180,749

4,361,294

59

180,749

180,749

4,859,986

60

180,749

180,749

5,393,586

61

180,749

180,749

5,964,538

62

180,749

180,749

6,575,457

63

180,749

180,749

7,229,141

64

180,749

180,749

7,928,582

A good alternative for filling the retirement income gap is to use the employer sponsored pre-tax deferred compensation plan. To meet the income goal of $729,174 per year only requires a pre-tax annual contribution of $180,749 for 20 years. The after-tax is equal to $729,174 for 15 years.

Assumes 40% tax rate. Note: Hypothetical taxable investment for illustration purposes only.

Pros

Cons

Pre-tax deferral minimizes current tax and amount needed to fill gap

Benefit payments are subject to future tax rates which could be higher. After-tax benefit is reduced to $607,645 at 50% future tax

Account balance grows tax-deferred on unpaid balance, which reduces required annual contributions

Account balance is subject to employer’s creditors. To mitigate risk, participant could tax a lump sum, but annual retirement benefits would be reduced to $437,504


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Professional Security Plan (PSP) Alternative What sets the PSP apart from nonqualified pension or retirement plans is the way investment gains are taxed. Contributions are made with after-tax dollars, but all earnings accumulate, tax-deferred, on the pre-tax amount (if loan feature is elected, discussed on the following page)1. Structured properly, distributions from the PSP are not subject to current taxation. What’s more, it also includes a non-taxable life insurance benefit. The PSP achieves its tax-advantaged status as a result of being powered by a variable universal life (VUL) insurance policy designed to provide high early cash value relative to the premiums paid, no surrender charges and an innovative loan feature. The flexibility in product structure combined with access to a carefully selected group of fund managers offers the potential for strong long-term growth and performance.2 The policy offers life insurance protection with access to more than 60 investment alternatives called “subaccounts� from fund managers such as Fidelity, Franklin Templeton, American Funds, and others. Please note, the PSP is not a qualified retirement plan like a Roth IRA or a 401(k) Roth and is not a non-qualified pension or deferred compensation plan. It is a strategy for putting after-tax dollars, and optional pre-tax dollars, into a variable universal life policy where earnings are tax deferred. And, if properly structured, distributions can be non-taxable. 1. Optional feature. Contributions refer to premiums paid into a variable life insurance product. 2. Depending upon the performance of the underlying investment options, the cash value available for loans and surrenders in a variable universal life insurance contract may be worth more or less than the original amount invested in the contract. VUL products are long-term life insurance products subject to investment risk. If the policy is classified as a Modified Endowment Contract under IRS rules, distributions are generally subject to income taxes and a 10% federal tax penalty.


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Tax Restoration Concept What makes the Professional Security Plan unique as a wealth accumulation strategy is the PSP’s loan feature. This feature allows the executive or professional to take a “tax restoration” policy loan to make up for the taxes paid on the amount of any after-tax contribution. The source of the loan can be from an independent third party lender or may be available as a non-recourse insurance policy loan (see example below). Assume an executive wants to contribute $50,000 to the Professional Security Plan. After paying all applicable taxes, there is approximately $30,000 left to invest, assuming a 40 percent tax rate. However, due to the “tax restoration” loan, the amount becomes $50,000 again.

Pre-tax Compensation

Taxes on Compensation*

Loan from Insurance Company**

$20,000

$20,000

Total Premium Paid

$50,000

$50,000 $30,000

$30,000

Net After-Tax

Premium to Insurance Policy

* Assumed 40% tax rate. ** Loan and source of loan is optional. If chosen, policy loan is non-recourse.

When the after-tax $30,000 is paid into the policy, the insurance carrier, at participant’s discretion, “loans” the account the amount paid in taxes, $20,000 in this example, so the entire $50,000 is invested, and the impact of taxes has been deferred. The non-recourse policy loan (Alternative Loan Rider: ALR) and any associated interest is simply deducted from the death benefit, assuming the policy remains in force until death1. The PSP loan’s interest rate or carrying charge is just an indexed 90-day LIBOR + 1.5% (LIBOR = 0.46% on 5/31/10), which is roughly the prime rate minus 1%. The interest rate could change. However, it will remain based on the PSP featured loan interest rate indexed at 90-day LIBOR + 150 basis point. The interest rate is capped at the Moody’s rate for corporate bonds or 5.61% as of May 2010. The loaned amounts do not show up on your credit report, or affect your debt/equity ratio, because the loans made within the PSP are non-recourse, insurance policy loans requiring no personal guarantee, and repaid only from the policy’s death benefit, assuming the policy is held until maturity. 1.

Policy loan is secured by policy cash value. If policy lapses, there may be adverse tax consequences.


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Because the PSP is using the tax restoration feature to restore the taxes paid, it requires the same deposit as the pre-tax alternative. Sample Executive Summary Executive Age 45 - 20 Pay Retirement Age:

65

ALR Interest Rate:

40.0%

ALR Percentage

3.0%

Crediting Rate - 7% Net Without ALR

Crediting Rate - 0% Net

With ALR

Without ALR

With ALR

Year

Age

Cash Premium

ALR Premium

Total Premium

Cash Surrender Value

Net Death Benefit

Cash Surrender Value

Net Death Benefit

Cash Surrender Value

Net Death Benefit

Cash Surrender Value

Net Death Benefit

1

45

150,862

100,574

251,436

161,422

4,823,876

165,445

7,934,202

155,753

5,203,835

156,042

8,571,015

2

46

150,862

100,574

251,436

334,144

4,996,625

346,598

8,115,342

307,590

5,355,672

302,431

8,717,404

3

47

150,862

100,574

251,436

518,957

5,181,468

544,717

8,313,398

460,717

5,508,799

447,784

8,862,757

4

48

150,862

100,574

251,436

697,246

5,359,673

728,875

8,497,317

594,028

5,642,110

556,815

8,971,788

5

49

150,862

100,574

251,436

874,280

5,536,707

907,398

8,675,683

717,136

5,765,218

645,444

9,060,417

6

50

150,862

100,574

251,436

1,062,543

5,724,970

1,101,086

8,869,374

838,668

5,886,750

727,892

9,142,865

7

51

150,862

100,574

251,436

1,258,270

5,920,697

1,303,670

9,071,797

954,630

6,002,712

803,340

9,218,313

8

52

150,862

100,574

251,436

1,460,826

6,123,253

1,513,928

9,281,944

1,063,135

6,111,217

875,111

9,290,084

9

53

150,862

100,574

251,436

1,683,506

6,345,933

1,753,908

9,521,713

1,176,661

6,224,743

957,143

9,372,116

10

54

150,862

100,574

251,436

1,901,506

6,563,933

1,982,060

9,749,936

1,284,288

6,332,370

1,031,445

9,446,418

20

64

150,862

100,574

251,436

5,541,383

6,828,269

6,453,299

8,595,687

2,421,264

6,438,258

1,929,010

8,625,159

30

74

0

0

0

2,990,458

3,356,833

3,640,611

4,294,109

2,138,838

2,707,725

1,061,298

2,010,858

45

89

0

0

0

820,474

1,271,357

4,312,318

5,283,047

1,573,407

2,608,828

0

0

After-tax Participant Contributions

3,017,232

3,017,232

3,017,232

3,017,232

Non-Taxable Retirement Annual Benefit

537,437

729,154

19,779

0

After Tax IRR on 15 Benefit Payments

5.65%

7.41%

N/A

N/A

Income Tax Free Death Benefit Age 82

1,188,754

2,533,598

2,608,828

0

After Tax IRR including Death Benefit

6.09%

7.98%

-0.14%

N/A

This Summary Must be Accompanied by Insurance Company Compliance Illustration Notes: This hypothetical illustration is based on the assumptions presented and shows how the performance of underlying accounts could affect a policy’s cash value and death benefits and should not be used to predict or project investment results. Loans and withdrawals reduce available cash value and reduce the death benefit or cause the policy to lapse. Actual returns may vary. Variable Universal Life Insurance is available by prospectus only.

Additional life insurance benefit: Death age 82 $2,533,598; Death age 90 $5,283,047. Non-taxable benefit is equal to $729,174 for 15 years.


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Plan Administration Services RCG follows a comprehensive methodology for establishing or taking-over plan administration, where all the activities and responsibilities are defined and agreed upon ahead of time. From conversion or initial implementation through ongoing day-to-day administration, we lead the various involved parties to ensure that your plan is properly managed in all aspects. Administration

Investments

We are a full service provider: • Implementation • Recordkeeping • Enrollment • Participant Education • Reporting • Online Tools • Special Projects

Our platform supports your individual funding & investment strategy over the entire life of your plan

Participant Investment Advisory Services We provide model portfolios and online access to fund information and the necessary tools to manage your account

Communication

We take a multimedia approach to communication

Design

We administer a plan specifically designed to meet your objectives. As your objectives change, so does our administration strategy

We start with a written proactive service timeline that is a part of a client’s personal service contract. The timeline outlines the objectives and services we intend to provide during the course of the plan year and to prevent issues, should they arise; if and when issues do arise, they can be dealt with in a timely fashion. In other words, this timeline can make life more successful for our clients.


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Plan Sponsor Website RCG provides access to an exclusive web-based platform: The Wealth Management Center (WMC). Wealth Management Center has been designed around one mission critical concept – restore the control over the accumulation and management of wealth in nonqualified plans that executives had prior to IRC Section 409A. The WMC is a comprehensive, user friendly solution to §409A and offers clients a number of unique, industry leading features: ŠŠ

Online Financial Planner

ŠŠ

Federal State Source Tax

ŠŠ

Distribution Election Management

ŠŠ

Distribution Tracking System & Payment Register

ŠŠ

Model Portfolios

ŠŠ

Configuration Groups

ŠŠ

Automatic Electronic Reminders

ŠŠ

Delayed Payment Tracking

ŠŠ

Online Enrollment

Manage Your Account Maximizing short & long term financial planning with the most flexibility under §409A. Our online enrollment is easy with the intuitive enrollment wizard.

The Wealth Management Center helps to increase the value proposition for our clients.


13|RCG

Additional Information RCG’s resources and services are strategically located to bring top-quality service to our clients in a proactive way. For more information about RCG|Benefits Group, visit www.retirementcapital.com or contact a local RCG representative.

RCG |B e n e f i t s G r o u p 12340 El Camino Real, Suite 400 San Diego, CA 92130 Tel: (858) 677.5900 | Fax: (858) 677.5915 http://www.retirementcapital.com


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RCG

Benefits Group

RCG |B e n e f i t s G r o u p 12340 El Camino Real, Suite 400 San Diego, CA 92130 Tel: (858) 677.5900 | Fax: (858) 677.5915 http://www.retirementcapital.com


Wealth Accumulation in a Changing World