Executive Benefit Plans in 2016: Emerging Trends

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benefit-plan-1-27-16.pngSince the credit crisis, most community banks have been able to grow and improve their financial condition. According to the Federal Deposit Insurance Corp. (FDIC), almost 60 percent of community banks reported higher year-over-year earnings for the period ending in the third quarter of 2015. In addition, community banks have increased assets by 5.6 percent and total loans and leases by 8.5 percent for the same period adjusted for mergers. While these growth numbers do not represent the pre-credit crisis years, the industry is showing an improvement. The percentage of unprofitable community banks are at the lowest level in many years. Community banks are defined by the FDIC Community Bank Study, December 2012, and one of the criteria is that these banks are “likely to be owned privately or have public shares that are not widely traded.”

What do improving conditions mean to banks and their compensation plans? Some banks have seen challenges in retaining key officers given increased competition for top talent, while other bankers believe they are now in a position to invest in additional key talent to grow their organization. For banks that have implemented various types of compensation plans, it may mean including an additional key officer in these plans. Attractive executive compensation plans include market-based salary, annual bonus based on performance, stock options or restricted stock (where applicable), reasonable contributions to a 401(k) or other qualified retirement plan, medical care and other standard benefits, change- in-control agreement and a custom-tailored nonqualified retirement plan.

Another important trend is the disruption created in many markets by mergers. The purchasing bank wants to retain the top lenders and others revenue generators, but the change in ownership can cause those individuals to consider other options. Competing banks that have developed a game plan for such situations will be positioned to hire some of these talented individuals. A nonqualified plan (customized for each executive) can play a vital role in attracting and retaining these individuals.

Another trend that has been taking place is an increase in the number of community banks that previously only offered salary and annual bonus plans, but are now providing more comprehensive compensation packages for key executives. This is a result of increased competition for executives as well as improved earnings.

Nonqualified plans need to be tailored to meet the needs of the individual. For example, a younger officer in his or her 30s may not see the value of a retirement benefit targeted at age 67, but would see value in a plan that allows for earlier cash distributions to pay for a child’s college education or that allows for early retirement at age 55. Many organizations use a combination of plans and approaches to attract and retain their key people. Here are some examples of situations and challenges bankers have faced when contemplating compensation plans:

  1. You have an executive in his mid-50s who has contributed to leading and growing the organization but has not yet been rewarded for his efforts. This executive’s compensation focus is now being more directed at retirement and wealth building rather than solely increases in current cash compensation. Consider a supplemental executive retirement plan (SERP) plan and perhaps a long-term incentive plan. He may also be interested in deferring current salary.
  2. You have young officers in their 30s and 40s who are high producers and need to be compensated for their efforts with more than just base salary and annual bonus amounts. Consider a performance-based nonqualified benefit plan or a combination of a SERP and performance-based nonqualified plan. It is important to tie these individuals to your bank if you remain independent, but it can also enhance the sales price if these individuals stay with the purchasing bank in the event your bank is sold. Properly designed nonqualified plans can substantially increase the probability they will stay in either scenario.
  3. For closely held banks that would like their management team to think like owners, consider nonqualified plans using a phantom stock or stock appreciation rights approach or, if another type of deferred compensation plan is adopted, consider linking the interest credited to the executive’s account to the bank’s return on equity.

Summary
With an improving economy and asset growth of community banks, along with a higher than normal level of merger activity, banks have been adding officers to existing long term incentive and nonqualified benefit plans or developing and implementing new plans to compete with other banks for talent. Utilizing more than one compensation strategy or plan can be an important element in attracting and retaining talent. The bank’s franchise value is dependent on its level of success in attracting and retaining key executives.

Equias Alliance offers securities through ProEquities, Inc. member FINRA & SIPC. Equias Alliance is independent of ProEquities, Inc.

Making Benefit Plans Work: It’s All in the Contract

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5-2-14-equias.pngTo attract and retain key executives, banks have implemented nonqualified benefit plans as part of their overall compensation strategy. One of the challenges of bank board members is to understand what is or is not included in these agreements and how the agreement terms affect other agreements such as change-in-control, employment contracts, equity plans and others.

Prevalence of Nonqualified Plans
Such plans are common in the banking industry. According to the American Bankers Association 2013 Compensation and Benefits Survey, 64 percent of banks surveyed offer some kind of nonqualified deferred compensation plan for top management (CEO, C-Level, EVP), and 45 percent of respondents offer a Supplemental Executive Retirement Plan (SERP). Types include performance-driven benefit plans, director retirement plans, death benefit or survivor income plans, and phantom stock or stock appreciation rights (SARS) plans.

To avoid violating the U.S. Department of Labor rules concerning plan eligibility, participants in nonqualified plans should be limited to a “select group of management or highly compensated employees,” which taking a conservative approach, is typically no more than 10 percent of a company’s employees. In addition, the included employees should have the ability to affect or substantially influence the design and operation of their deferred compensation plan.

It is important for the board to understand the terms of their deferred compensation plans and the potential ramifications. Common questions that arise regarding some key agreement terms are:

  • What happens if the executive chooses to retire early or extend the time to retirement? Generally the benefits are payable at the time the executive separates from service. Depending on the plan design and the board’s intent, the benefit amount for delayed retirement may remain the same or may be increased.
  • What happens in the case of involuntary termination or termination-for-cause? Termination-for-cause provisions often include forfeiture of some or all of the benefit.
  • What happens if the executive becomes disabled? Some plans provide that payments commence upon separation from service due to disability while some commence at normal retirement age.
  • What type of vesting is common in plans? Since nonqualified plans are not governed by ERISA (Employee Retirement Income Security Act), they may use a number of different vesting options including: immediate, graded, cliff, rolling, or at-retirement. Vesting will vary depending on the objectives of the plan, tenure of the executive and annual expense accruals required.
  • What type of non-compete/non-solicitation terms are included? Some agreements include a definition of these terms, although many banks include them in separate agreements which should be consistent. The length of the non-compete/non-solicitation period as it relates to a nonqualified plan is typically 12 to 36 months, but may last as long as the benefit is being distributed.
  • Nonqualified benefit plan agreements should be reviewed together with other compensation related agreements, such as those mentioned above. So-called “golden parachute rules” are discussed in a previous article and are a perfect example of why a thorough review of all such agreements is critical.

Agreements generally include other terms such as pre- and post-retirement death, change-in-control, and form and timing of payment.

Key items to consider/evaluate when reviewing plans and agreements include:

  • Are key terms consistent with other implemented agreements such as employment agreements, change-in-control agreements, non-compete/non-solicitation, long term incentive plans and equity plans?
  • Has the total cost of a change-in-control based on the agreement provisions, including the accelerated vesting of benefits, been calculated and discussed with the board?
  • Are the plans properly documented in accordance with IRC Section §409A as appropriate, which governs deferred compensation plans?
  • Does the plan provide a meaningful benefit to the participant? Many plans were designed at a time when the benefit was meaningful, but the participant’s role and compensation may have significantly changed.

Summary
Nonqualified benefit plans will remain an important piece of the overall compensation strategy to attract and retain key officers, but it is critical to design meaningful and effective plans and ensure the plan documentation language is clear and avoids conflicts with all employment and benefit-related agreements. For deferred compensation plans subject to IRC 409A, there is limited ability to change the form and timing of payments after implementation; therefore, it is critical to work with experienced professionals who can help make sure you get it right the first time.

Equias Alliance offers securities through ProEquities, Inc. member FINRA & SIPC. Equias Alliance is independent of ProEquities, Inc.