Working with Principal® provides you with a lot of options to attract and retain key people in your clients’ organizations. Explore your bonus, split-dollar, deferred compensation, and stock plan options or get help deciding what might work for you.
For information in how taxes may be applied, contact a tax professional.
Long-term incentive plans (LTIPs): LTIPs traditionally referred to a long-term (e.g., three-year) performance-based compensation plan in which pay-outs (in either shares or cash) were contingent on meeting specified goals during the performance period. Now, however, the phrase refers to any type of equity or cash incentive plan that is based on a time horizon or vesting schedule of more than one year.
Company issues shares of stock (granted) to an employee (grantee) who does not own the shares, and who cannot sell or transfer the shares, until the restrictions lapse at vesting.
Company makes an unfunded promise to issue a specific number of shares to an employee (grantee) at a future time once vesting conditions have been satisfied. In this grant, stock is not issued or outstanding until both vesting and the release of the shares by company occurs. Stock settled RSUs are much more common than cash settled RSUs.
Company grants the right to an employee (option holder) to purchase a specified number of shares of company stock at a specified price (exercise price) for a scheduled period (generally between five and 10 years). Exercise price is the market price of company stock on the grant date. The option only becomes more valuable if the stock price goes up, which gives the option holder the right to buy the shares at a discount (market price when granted). Employee stock options can exist in multiple forms.
A type of qualified stock option that meets certain tax requirements and can provide favorable tax treatment to the option holder.
A stock option that does not meet criteria for incentive stock options under the IRC, therefore triggering a tax upon exercise. The word “nonqualified” or “no statutory” applies to the tax treatment (not to eligibility of any other consideration). Nonqualified stock options may be granted to employees, officers, directors, contractors, and consultants (non-employees).
Company grants the right to an employee to receive cash or stock equal in value to appreciation of the stock between the grant date and the SAR exercise date. A stock settled stock appreciation right pays out the appreciation in the form of stock rather than cash.
Employee Stock Purchase Plans (ESPPs): Company adopts a plan that permits employees to use after-tax payroll deductions to buy shares of company’s stock. This differs from a qualified retirement plan (like a 401k plan) to which employee money is contributed on a pre-tax basis.
An ESPP that meets the requirements of IRC 423 and has special features and confers beneficial tax treatment of the purchase price discount. This type of ESPP is called a “qualified” ESPP – not to be confused with a qualified retirement plan.
Note: Also, do not confuse with Employee Stock Ownership Plan (ESOP), which is a tax-qualified defined contribution plan that is generally entirely employer funded.
An ESPP that does not confer special tax treatment under IRC 423 because plan features do not meet the requirements under the tax law. Nonqualified ESPPs usually offer more flexibility in terms of eligibility and design. The discount may be greater than 15%, the company may match participant contributions, and/or the plan may be available only to a limited group of key talent.
Employee Stock Ownership Plan (ESOP): Company adopts a tax-qualified retirement plan designed to invest primarily in qualifying employer securities, which can be sponsored by a public or closely held corporation and hold private or public stock. The plan is subject to ERISA and the IRC, must be broad-based and cannot discriminate in favor of highly-compensated employees. Employer contributions can be made in company stock or cash used to buy company stock. Employee contributions are generally not allowed (except in limited situations). Contributions to the plan are usually made annually, subject to vesting and paid to employees upon death, disability, retirement or following termination of employment based on the plan’s distribution policy.
Bonus plan: A bonus plan for key talent with an emphasis on simplicity and a current business tax deduction.
Bonus — S Owner plan: A bonus plan allowing owners of S corporations to use compensation or K-1 distributions to enhance their personal retirement. This plan can also help provide favorable taxation at distribution.
Bonus — LLC Member plan: A bonus plan allowing members (owners) of limited liability companies (LLCs), taxed as partnerships, to use guaranteed payments or distributions to enhance their personal retirement. This plan can also help provide favorable taxation at distribution.
Loan Split Dollar plan: A plan that uses a loan to allow key talent and the employer to share the cost and benefits of the plan. The arrangement results in the purchase of a cash value life insurance policy paid with the loans from the employer.
Endorsement Split Dollar plan: A plan designed to provide key person death benefits to the business, and death benefit protection for the key employee’s family. A life insurance policy is purchased and the premium payments and policy benefits are divided between the two parties.
Deferred Comp — Death Benefit Only (DBO): A plan that promises select employees, in the event of their death while covered by the plan, their named beneficiary will receive the benefit specified under the plan. To help fund the liability, the organization could purchase a life insurance policy on the key talent, which could also provide key person coverage.
Deferred Comp — Incentive Bonus: A long-term incentive plan that gives employers a retention and reward strategy that allows them to provide additional compensation to the select key talent they choose. The company can choose to informally finance the future obligation or pay through company cash flow.
Deferred Comp — Select Reward: This is a deferred comp defined benefit plan. Enables employers to promise a lump-sum benefit to select key talent payable at the end of a predetermined service period.
Deferred Comp — SERP: A selective executive retirement plan (SERP) is a deferred comp defined contribution plan to benefit one to five select key talent. Accepts employer contributions only and allows multiple vesting and payout options.
Deferred Comp — Defined Contribution: A plan allowing select key talent to defer compensation above qualified plan limits— potentially up to 100%. The employer can also provide contributions to help retain employees and meet organizational goals. The company can choose to informally finance the future obligation or pay through company cash flows.
Deferred Comp — Defined Benefit: A plan providing select key talent a supplemental retirement benefit beyond qualified plan limits. The company can choose to informally finance the future obligation or pay through company cash flow.
Learn more
Want to learn more about equity compensation? Reach out to your Principal® representative.