326 Planning and Forecasting
enhanced, since he pays no taxes on the salary he does not receive and escapes
from the limitations on deductibility described previously.
The corporation pays out no more money this way than it would have if
the entire amount were salary. From a tax standpoint, the corporation is only
slightly worse off, since the amount it would have previously deducted as salary
can now still be deducted as ordinary and necessary business expenses (with
the sole exception of the limit on meals and entertainment). In fact, were
Brad’s salary below the Social Security contribution limit (FICA), both Brad
and the corporation would be better off because what was formerly salary (and
thus subject to additional 7.65% contributions to FICA by both employer and
employee) would now be merely business expenses and exempt from FICA.
Before Brad and Morris adopt this strategy, however, they should be aware
that in recent years, Congress has turned a sympathetic ear to the frustration
the IRS has expressed about expense accounts. Legislation has conditioned the
exclusion of amounts paid to an employee as expense reimbursements upon the
submission by the employee to the employer of reliable documentation of such
expenses. Brad should get into the habit of keeping a diary of such expenses for
tax purposes.
Deferred Compensation
Often, a high-level executive will negotiate a salary and bonus that far exceed
her current needs. In such a case, the executive might consider deferring some
of that compensation until future years. Brad may feel, for example, that he
would be well advised to provide for a steady income during his retirement
years, derived from his earnings while an executive of Plant Supply. He may be
concerned that he would simply waste the excess compensation and consider a
deferred package as a form of forced savings. Or, he may wish to defer receipt
of the excess money to a time (such as retirement) when he believes he will be
in a lower tax bracket. This latter consideration was more common when the
federal income tax law encompassed a large number of tax brackets and the
highest rate was 70%.
Whatever Brad’s reasons for considering a deferral of some of his salary,
he should be aware that deferred compensation packages are generally classi-
fied as one of two varieties for federal income tax purposes. The first such
category is the qualified deferred compensation plan, such as the pension,
profit-sharing, or stock bonus plan. All these plans share a number of charac-
teristics. First and foremost, they afford taxpayers the best of all possible
worlds by granting the employer a deduction for monies contributed to the plan
each year, allowing those contributions to be invested and to earn additional
monies without the payment of current taxes, and taxing the employee only
upon withdrawal of funds in the future. However, in order to qualify for such
favorable treatment, these plans must conform to a bewildering array of condi-
tions imposed by both the Code and the Employee Retirement Income Secu-
rity Act (ERISA). Among these requirements is the necessity to treat all