# Advantages and Disadvantages of Supplemental Executive Retirement Plans (SERPs)

![Supplemental Executive Retirement Plan (SERP): An extra retirement plan made available to a company's key executives.](https://www.investopedia.com/thmb/V9fn4yHjgcpfmdlX83JHPrEes0U=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/Serp_final-1f2c4d46134d4a7daf049bb01837ffba.png)

*— Investopedia / Michela Buttignol*

## What Is a Supplemental Executive Retirement Plan (SERP)?

Supplemental Executive Retirement Plans (SERPs) offer a non-qualified retirement option to [top-level employees](https://www.investopedia.com/terms/u/upper-management.asp), supplementing standard [retirement savings](https://www.investopedia.com/retirement-savings-accounts-4689692). These plans provide additional [deferred compensation](https://www.investopedia.com/articles/personal-finance/102215/benefits-deferred-compensation-plans.asp) and are designed to reward and retain key company leaders. Unlike [qualified plans](https://www.investopedia.com/terms/q/qrp.asp) such as [401(k)s](https://www.investopedia.com/terms/1/401kplan.asp), SERPs do not offer immediate tax advantages but can be customized to meet executive needs and company goals.

### Key Takeaways

*   Supplemental Executive Retirement Plans (SERPs) are non-qualified retirement plans offered to select executives as a tool for [long- term incentive](https://www.investopedia.com/terms/l/long_term_incentive-plan.asp).
*   SERPs offer no immediate tax advantages to the company or the executive, unlike qualified plans such as a 401(k).  
    
*   These plans are typically funded through the company's cash flow or a cash-value life insurance policy, which can provide tax-deferred growth.  
    
*   If an executive leaves the company before being fully vested, they may forfeit some or all of the benefits from their SERP.  
    
*   SERPs offer flexibility in payout options, with benefits typically distributed either as a lump sum or an annuity.

## How SERPs Function: Key Insights

Companies use SERPs as a way to reward and retain key executives. Because these plans are non-qualified, they can be offered selectively to key executives, whose contributions to the company's qualified plan, such as a [401(k)](https://www.investopedia.com/beginners-guide-to-types-of-401-k-s-5323549), must follow the maximum contributions rule set annually by the [Internal Revenue Service (IRS)](https://www.investopedia.com/terms/i/irs.asp).

> **Important**
>
> In tax year 2024, the most an employee can contribute to a 401(k) is $23,000, unless they are 59 ½ years old or older, in which case they are able to make up to $7,500 in additional catch-up contributions. For tax year 2023, it's $22,500 and $7,500, respectively.

Typically, the company and the executive sign an agreement that promises the executive a certain amount of supplemental retirement income based on various eligibility conditions that the executive must meet. The company funds the plan out of its current [cash flows](https://www.investopedia.com/terms/c/cashflow.asp) or through the funding of a [cash-value life insurance policy](https://www.investopedia.com/terms/c/cash-value-life-insurance.asp). The money, and [the taxes on it, are deferred](https://www.investopedia.com/terms/t/taxdeferred.asp). After retiring, the executive can withdraw the money. They must pay state and [federal taxes on it as ordinary income](https://www.investopedia.com/terms/t/taxbracket.asp).

## Benefits of Implementing a SERP

Supplemental executive retirement plans are options for companies seeking to incentivize key executives. As they are non-qualified, they require no IRS approval and minimal reporting.

The company controls the plan and is able to book an annual expense equal to the present value of the stream of future benefit payments, much like [an annuity](https://www.investopedia.com/retirement/calculating-present-and-future-value-of-annuities/). When the benefits are paid, the company is able to deduct them as an expense.

When a cash-value life [insurance](https://www.investopedia.com/terms/i/insurance.asp) policy is [used to fund the benefits](https://www.investopedia.com/ask/answers/111015/can-you-fund-nonqualified-deferred-compensation-plans-life-insurance.asp), the company benefits from tax-deferred [accumulation](https://www.investopedia.com/terms/a/accumulation.asp) inside the policy. In most cases, the policy can be structured in a way that allows the company to recover its costs.

The plan can be customized for executives, and the benefits grow without immediate tax impact.

When funded with a cash-value life insurance policy, [death benefits](https://www.investopedia.com/terms/d/deathbenefit.asp) are available to provide a continued periodic payment or [a lump-sum payment](https://www.investopedia.com/terms/l/lump-sum-payment.asp) to the family in the event of the executive's death. Depending on the details of the policy, these benefits can support a surviving spouse and potentially the executive's dependents. [Beneficiary](https://www.investopedia.com/terms/b/beneficiary.asp) designations are important with such policies because they supersede what is written in [a will](https://www.investopedia.com/terms/w/will.asp), and allow [assets](https://www.investopedia.com/terms/a/asset.asp) to be distributed while an [estate](https://www.investopedia.com/terms/e/estate.asp) is in [probate](https://www.investopedia.com/terms/p/probate.asp) or even if the executive died [intestate](https://www.investopedia.com/terms/i/intestate.asp).

## Potential Drawbacks of SERPs

Since a SERP is unqualified, the company doesn't get an immediate [tax deduction](https://www.investopedia.com/terms/t/tax-deduction.asp) when funding it.

[Unlike qualified plans](https://www.investopedia.com/articles/personal-finance/040716/which-retirement-funds-are-protected-creditors.asp), SERP funds held in a life insurance policy aren't shielded from creditors if the company goes [bankrupt](https://www.investopedia.com/terms/b/bankruptcy.asp).

## What Happens to My SERP If I Quit?

If you leave your job, what happens to your supplemental executive retirement plan (SERP) depends on the conditions set in your agreement with the company. If your SERP was based on a [vesting](https://www.investopedia.com/terms/v/vesting.asp) structure, and you part ways with your employer before you are fully vested, then the assets you are not vested in are not yours.

There are two vesting structures, according to the IRS: graded vesting and cliff vesting. The former distributes assets in a set, periodic schedule over time (for example, 20% per year), whereas the latter distributes assets all at once, after a certain period of time (for example, after an employee has worked for four years at a company).

## Who Funds a SERP?

The employer funds the supplemental executive retirement plan (SERP). It is typically funded through a cash-value life insurance policy, which the employer purchases for an agreed-upon amount for the employee. The policy may have survivor benefits for the executive's beneficiaries.

## How Is a SERP Paid Out?

A supplemental executive retirement plan (SERP) is typically paid out either as a lump-sum payment or as an annuity. A lump sum arrives all at once, which may have the impact of raising your income into a higher [tax bracket](https://www.investopedia.com/2021-tax-brackets-other-tax-changes-5084597). An annuity is deposited over time periodically, in a set schedule. Consider consulting with a financial professional to weigh the value of a lump-sum payment versus the future value of periodic payments. Take your time in deciding whether a lump-sum payment or an annuity is right for you.

## Final Thoughts on SERPs: A Balanced Overview

 A Supplemental Executive Retirement Plan (SERP) is a deferred compensation strategy aimed at attracting and retaining top executives, typically structured through a cash-value life insurance policy. Although SERPs do not provide immediate tax advantages to either the company or the employee, the company can benefit from tax deductions when it disburses the benefits.

If you are evaluating a job offer that includes a SERP, scrutinize the vesting schedule and assess your long-term commitment to the organization. It's crucial to understand that if you leave the company before fully vesting, you might lose out on some benefits. Ensure you consider the full implications of a SERP, as it could significantly impact your retirement planning.  

> **Article Sources**
>
> 1.  Internal Revenue Service. "[401(k) Limit Increases to $23,000 for 2024, IRA Limit Rises to $7,000](https://www.irs.gov/newsroom/401k-limit-increases-to-23000-for-2024-ira-limit-rises-to-7000)."
>     
> 2.  Internal Revenue Service. "[Retirement Topics - Vesting](https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-vesting)."