With just a few short months before the end of the year many higher earners in Pharma have already reached the limit in what the IRS allows for annual 401(k) contributions.
This can be frustrating for people who would prefer to keep saving for retirement and are also hoping to limit the amount of income they have to pay taxes on.
If that sounds familiar your employer may offer a solution - but one that usually has limited time to set up.
The Good
What I'm referring to is something called a nonqualified deferred compensation plan.
As the name suggests this is an agreement with your employer to delay a part of your compensation into the future.
Unlike a qualified deferred compensation plan, such as a 401(k), a non-qualified plan doesn't have any contribution limits.
Meaning if you tend to max out your 401(k) early in the year, and you wish you could save more for retirement, this could be a way to do so.
Additionally this has the added benefit of reducing your taxable income.
The more compensation you choose to defer, the less you make that year, and the less taxes you pay.
If you receive future payments when you're retired and in a lower tax bracket that could be even more money saved.
The Bad
There are downsides to this kind of plan however.
For starters they are much less flexible than a typical 401(k).
The amount of compensation you would like to defer, as well as when and how those payments will be made in the future must be explicitly planned in advance each year.
Most employers that offer this type of plan will have an enrollment period, typically toward the end of the year, where eligible employees can decide the terms for any compensation they wish to defer for that upcoming year.
Once those terms are established there's no going back, and you can't make a withdrawal if you change your mind.
You'll have to wait until the following enrollment period to make any decisions about your compensation for the next year.
The Ugly
By far the biggest risk of one of these plans is you are essentially giving up compensation today with the promise that your company will pay it to you at some point in the future.
But that's not a guarantee - if that company ends up in financial trouble and declares bankruptcy there's a good chance you won't get anything.
Because of the way they operate these plans aren't held to the same type of ERISA standards that most retirement plans are.
While that gives them their primary benefit (no contribution limits) it also comes with extra risk that many would rather avoid.
Conclusion
Because of the way these plans work I certainly wouldn't recommend them to anyone who isn't already maxing out their 401(k)s.
A 401(k) is a far more flexible and reliable way to save for retirement.
However if you are one of the many people in Pharma who do well enough to max out your 401(k) early in the year, this could be something to consider.
You can reduce your taxable income and greatly increase the amount you're saving towards retirement.
And if you are confident in the financial standing of your employer those benefits may be enough reason to consider a nonqualified deferred compensation plan.
Want to figure out what makes the most sense for you?
Schedule a call with me.
It's quick, easy, and can make all the difference in your future.
