The QSERP: Gaming the Nondiscrimination Rules to Provide Larger Qualified Benefits for Executives
Carolan, Mark E., Journal of Corporation Law
I. INTRODUCTION II. BACKGROUND A. Defined Benefit Retirement Plan Overview B. Background on the Evolution of Retirement Plan Regulation C. The Current Nondiscrimination Requirements 1. Amount Limits on Pay and Benefits 2. Nondiscrimination Testing i. A Permitted Level of Discrimination ii. Increasing the Discrimination Permitted in a Qualified Plan iii. Integrated Plans and Permitted Disparity iv. Nondiscriminatory Plan Amendments 3. Penalties for Discriminatory Plans D. Supplemental Executive Retirement Plans (SERPs) E. The "Qualified" Supplemental Executive Retirement Plan (QSERP) F. Section 409A III. ANALYSIS A. The Problematic Status of the Current Nondiscrimination Rules for Plan Amendments B. The QSERP Runs Contrary to the Purpose of ERISA and Executive Compensation Laws IV. RECOMMENDATIONS A. The Internal Revenue Service Must Become More Aggressive Toward Plan Amendments 1. Expand the Resources to Monitor Plan Amendments 2. Impose Heightened Standards on Employers Submitting Amendments for IRS Approval B. Interpret or Amend [section] 409A to Explicitly Prevent QSERPs V. CONCLUSION
Retirement-plan regulation must walk a fine line. On one hand, the federal government wishes to incentivize private retirement benefits since they promote the general worker welfare, (1) so the government provides incentives for employers to provide retirement plans. (2) On the other hand, to ensure that these benefits promote the general worker welfare, the Federal Government imposes complex and strict regulations on these plans. (3) Section 401(a)(4) of the Internal Revenue Code illustrates one particular policy underlying these regulations--qualified benefits cannot discriminate in favor of highly compensated employees (HCEs) over non-highly compensated employees (NHCEs). (4) To this end, the Internal Revenue Service (IRS) and the U.S. Department of the Treasury (Treasury) have issued numerous complex requirements to ensure that qualified plan benefits do not discriminate in favor of HCEs. (5)
Employers still can enjoy great flexibility in how they choose to compensate their employees, but the government incentives granted to an employer are for providing a qualified benefit plan to promote the general worker's welfare. (6) If an employer wishes to discriminate in its benefits, it can forego the government incentives and provide a nonqualified benefit plan. (7) The nondiscrimination rules seek to ensure that discriminatory plans do not enjoy qualified status.
However, strategic manipulation of the rules can actually allow an employer to discriminate in its qualified benefit plan, and even transfer benefits from a nonqualified plan into a qualified plan. A Qualified Supplemental Executive Retirement Plan (QSERP) uses loopholes in the nondiscrimination rules to allow discriminatory nonqualified benefits to gain the preferential qualified treatment. (8) Despite being contrary to [section] 401(a)(4) of the Code, the QSERP is not explicitly illegal. (9) In the end, this practice allows executive benefits greater security and preferential tax treatment at the expense of the rank-and-file workers and taxpayers, who subsidize this strategy. (10) Given the current scrutiny of executive compensation (11) and the poor funding status of retirement plans, (12) there is no reason the government should continue to allow these manipulative techniques to be legal.
This Note demonstrates how employers execute the QSERP under the current nondiscrimination rules, and further explains why this practice violates fundamental principles of ERISA and [section] 401(a)(4) of the Code. Part II of this Note provides a background on retirement plan regulation and explains how the nondiscrimination rules and the IRS allow the QSERP to exist. …