A growing company faces a number of challenges when trying to determine appropriate strategies to address a diverse workforce with varied needs. One area where this is especially true is among the senior executive. Not only do we typically see a large age range among this group, but there are also compensation considerations which differ from the majority of other company staff.
Areas which must be taken into account include;
- the higher incomes of this segment which render standard retirement plans inadequate,
- the need to reward executives in a tax efficient manner,
- the loss of revenue or the increase in expense that results from the unexpected departure of a key person.
Supplemental Retirement Benefits
To address the retirement income shortfall that arises for individuals with salaries greater than the RRSP maximum – currently $141,000 in 2015 – consideration can be given to the creation of a Supplemental Executive Retirement Plan (SERP). The challenges associated with the creation of a SERP are largely related to aligning the SERP with the existing pension plan and ensuring that accruals to the SERP do not become taxable under the Salary Deferral Arrangement (SDA) rules. .
Another method to address the retirement income shortfall and reward employees over the long term is through the use of Deferred Share Units (DSU) or Performance Appreciation Rights (PAR). DSU’s or PAR’s help an employer to provide long term incentives to employees without running afoul of the SDA rules. Payment of both types of benefits is restricted to termination, death or retirement of an employee.
Deferred Share Units are units granted to an employee which track changes in the company’s share price. DSU’s are most commonly found in public companies. The preferred option for closely held firms is the Performance Appreciation Right. PAR’s are not tied to the share price but based on performance. A possible unit of measure is the change in revenue over ten years. Payment could be based on the delta in performance from year one to year ten. However, any performance based measure deemed appropriate by the company can be used.
- a business grants one hundred units to an executive in year one.
- The unit value is deemed to be $100.
- Current company revenue is $100 million.
- In year ten, when the employee retires, the company revenue is $600 million.
- The unit value is now $600.
- The employee is paid $50,000 (100 units x ($600 – $100)) upon retirement.
The advantage of a DSU or a PAR is the focus on the long term. While annual bonuses are beneficial, this type of program brings focus to those goals that cannot be achieved in the short term and provides a golden handcuff to help retain and reward senior members of the team.
In our next feature we will explore how a company can protect itself from the risk caused by the unexpected absence of a key person.