Deferred Compensation for Key Employees

As a business owner, you may have a key employee you want to reward, not only for their past performance, but also for their future efforts. Certain incentives can be helpful in encouraging employees to stay committed to your business and helping it grow. 

Deferred compensation is one route you can take to accomplish this, and it can be structured in more than one way depending on your wishes. This tool can be mutually beneficial for both you and your employee and impact your business for the better. 

How Deferred Compensation Works

Deferred compensation is an agreement between a business owner and a key employee that promises that the business will pay them some amount of money at some time in the future.

In this agreement, the following is stated:

• The dollar amount, or how compensation will be calculated

• The time at which the payment will be given

Payment is deferred until the time stated in the agreement. This could be tied to a specific date, the key employee’s termination, or even a change of control of the company.

What This Can Look Like

These types of agreements can be drafted in many ways to achieve your business goals for growth and keep your key employee happy. 

Take a look at a few examples of how this can be structured: 

Example 1: Jeff’s agreement states that he is to be paid $20,000 for every year that heremains with the company and that he will be paid for each year 5 years later. So, the $20,000 earned in Year 1 is paid at the end of Year 5, and the $20,000 earned in Year 2 is paid at the end of Year 6. Jeff’s agreement also provides that if he leaves the company, he will be paid any remaining amount on the same 5-year schedule.

Example 2: Terry’s agreement is like Jeff’s, except that if he leaves for any reason, he will forfeit the right to any amounts not yet paid.

Example 3: Cecilia’s agreement states that she is to be paid 25% of the net profit of the company each year, with those amounts to be paid beginning at the time that she leaves the company or at age 65– whichever comes sooner. The first payment is due one year after either event occurs, and then 4 more installments will follow on the next four yearly anniversary dates. She also would be paid sooner if there were a change of control.

One important rule to remember is that when putting these together, you must be certain that you are fully satisfied with the payment schedule. This cannot be changed to pay an employee earlier or later, unless specific tax requirements are met.

Consult MKP Law for Legal Guidance

At MKP Law, we offer legal guidance and support for a wide range of areas, from business law to estate planning to business and civil litigation. 

If you would like to consult with us about deferred compensation and what would work for you, please contact us today.