457(f)/457(b) Top Hat Plans

[Guest wjr]

Can anyone tell me if the courts have been sympathetic to participants in these plans in the event of bankruptcy when all the contributions have been employee deferrals (no employer contributions)? Or have they just put them in line with the rest of the creditors.

[Carol V. Calhoun]

I haven't seen cases on this. But I seriously doubt that courts would be terribly sympathetic. In the first place, the bankruptcy preferences are pretty mechanical, so sympathy wouldn't really help. Also, because these plans cover only the most highly compensated employees, a court might be inclined to believe that the participant was in part responsible for the bankruptcy. Thus, to the extent the court's sympathies played a part, I would see it as being more likely to be negative than positive.

[Guest wjr]

Thanks Carol - I was sort of afraid of that too. And since this is suppose to be for just the "select" group, they are suppose to understand the risk associated with such a plan, even though I find they don't completely understand it until it is too late.

[mbozek]

This was an issue when Orange Co. Cal went bankrupt a few years ago. The Co maintained a 457 plan with about $170m in assets for all employees. The creditors of the Co wanted the funds. As I recollect the 457 plan took a haircut of about 10% of the assets to pay its share of the obligations due the creditors. This is why 457(B) plans for govt employers are now required to hold the assets in trust for the exclusive benefit of employees exempt from the claims of the employer's creditors. But 457 plans of nps are required to be subject to the NPs creditors. The risk for NP is the same as non qualified plans for profit making employers, as Enron executives are finding out.

[Guest Tom Geer]

Also, if the courts get too sympathetic, the plans could lose their unfunded status. This would not be pretty.

There are mechanisms to reduce the bankruptcy risk. These include purchase of a private performance bond by the employee and springing provisions in rabbi trusts that convert them to secular trusts. The alternatives are all esoteric and require some risk tolerance by the participants.

[mbozek]

TOM: According to a post under nonqualified plans- insurance and bankruptcy in non qualified plans, surety insurance is no longer available for payment of non qualified plan benefits. It was never really available to nps since AIG only insured plans of credit worthy public companies (A rating or better) which were unlikely to go bankrupt. Also none of the products offered by the consulting houses that I have reviewed escape the basic requirement that the assets msut be subject to the claims of the employers creditors in order to avoid taxation to employees. Any of the other variations e.g., rabbicular trusts, always come with caveats that the IRS has not reviewed the product and could tax employees under theory that there was no risk that the benefits would be subject to the claims of creditors. The trend now is to do a serp swap to a split dollar policy like Ken Lay did in 1994.

[Guest Tom Geer]

Thanks for the input on the surety bonding. I never did find out who issued it, and apparently the answer now is "nobody".

All the other methods are aggressive as compared with what the IRS will issue a ruling on, which is why they get caveated. However, this isn't black/white stuff, but has shades of gray and degrees of risk that some people may choose to live with and others not.

My general view is that if the employees are that worried about the credit of the sponsor, they should stay away from any nonqualified plans, maximize their 403(B) or 401(k), and understand that that employment opportunity doesn't offer anything more.