Todd Rimer hosted this episode of "Up In Your Family Business" podcast, featuring Alex Parrish and her father Dennis Parrish from Spectrum Financial Group, an independent wealth management and financial services firm based in Indianapolis. The conversation focused on creative compensation planning, deferred compensation, and executive bonus plans as strategic tools for business owners to reward key employees, reduce taxes, and build wealth.
Dennis Parrish explained that creative compensation planning addresses what the business is doing for the owner beyond basic benefits, emphasizing that business owners face significant taxation and risk exposure. He highlighted that business owners need strategies to protect themselves whether they "live too long, die too soon, and all the hazards that come in between."
Alex Parrish detailed the discrimination challenges faced by highly compensated employees earning over $150,000, particularly with 401k contributions. She explained that in traditional 401k plans, business owners can only contribute 2% more than the average employee contribution. For example, if employees average 1.5% contributions, the business owner can only contribute 3.5% of their $200,000 income, which is insufficient for retirement planning. Safe harbor 401k plans eliminate this restriction, allowing maximum contributions of $24,500.
The discussion distinguished between discriminatory and non-discriminatory benefits. Dennis Parrish clarified that non-discriminatory benefits like health insurance and traditional 401k plans must be offered equally to all employees, while discriminatory benefits can be selectively provided to key employees or business owners only.
Regarding deferred compensation plans, Dennis Parrish explained these involve the business owner deferring employee compensation with "golden handcuffs" requiring employees to stay until retirement or a specified period. The business owner owns the plan and can promise benefits like 50% of annual income for five years after retirement, or 100% of salary to a spouse for 10 years if the employee dies before retirement. The business owner cannot tax-deduct contributions initially but can take tax-free withdrawals from life insurance to pay benefits and then deduct those payments. These plans require third-party administrators costing approximately $1,900-2,000 annually, with one administrator in Louisiana handling up to three people per plan at the same price.
Executive bonus plans (Section 162 plans) operate differently, with the key employee owning the plan and naming beneficiaries. Dennis Parrish described scenarios where businesses contribute $20,000 annually to life insurance policies for key employees. The business gets immediate tax deductions, while employees pay taxes on contributions. Business owners can "double bonus" by covering the employee's tax burden. Upon retirement, employees access tax-free cash value for retirement supplementation.
For family business succession planning, Dennis Parrish highlighted how these strategies help fund next-generation buyouts. He noted that children often lack cash to purchase businesses from parents, so current funding through these plans enables future succession while providing current tax deductions.
The Parrishes emphasized that 70% of small businesses lack succession plans, creating vulnerabilities when owners become disabled, die, or want to exit. Dennis Parrish cited IRS rules preventing salary payments to disabled non-working owners, requiring proper succession planning to continue income streams.
Alex Parrish shared a current case study involving a business owner with a key employee running 95% of operations. They're implementing either an executive bonus or deferred compensation plan, currently in the life insurance underwriting process to determine costs before finalizing the approach.
Dennis Parrish provided a success story of four business owners who implemented buy-sell agreements with investment-grade life insurance, using "double duty dollars" for both business continuation and deferred compensation. Over time, as three brothers retired, $5.5 million was distributed tax-free to fund their retirements without burdening the remaining owner.
The conversation addressed taxation concerns, with Dennis Parrish noting that the top 50% of wage earners pay 90% of taxes, and business owners face increasing tax burdens with $36 trillion in national debt. He emphasized that business owners don't want to avoid taxes entirely but seek to pay their fair share rather than being overtaxed.
Alex Parrish highlighted the advantage of guaranteeing future tax treatment through life insurance, potentially beating traditional investments by 24-35% through tax savings alone. She emphasized the importance of not waiting to implement these strategies, as implementing when younger provides greater benefits.
The Parrishes meet with new clients every six months for the first two years, then annually, returning to six-month intervals as retirement approaches. They maintain hands-on relationships, especially during market downturns when other advisors often disappear.
Introduction to Creative Compensation Planning and Key Employee Challenges 00:01:45
Dennis Parrish introduced creative compensation planning as addressing what businesses do for owners beyond basic operations, emphasizing that business owners face significant taxation and risk exposure. Alex Parrish explained discrimination issues for highly compensated employees earning over $150,000, particularly 401k contribution limitations where business owners can only contribute 2% more than average employee contributions, making traditional retirement planning insufficient.
Discriminatory vs Non-Discriminatory Benefits and Plan Types 00:05:06
Dennis Parrish distinguished between discriminatory benefits (selective for key employees) and non-discriminatory benefits (required for all employees). The discussion covered safe harbor vs traditional 401k plans, with Alex Parrish explaining how safe harbor plans eliminate contribution restrictions, allowing maximum $24,500 contributions regardless of employee participation rates.
Deferred Compensation Plan Structure and Benefits 00:10:51
Dennis Parrish detailed deferred compensation plans involving golden handcuffs requiring employee retention until retirement or specified periods. Business owners own these plans, promising benefits like 50% of annual income for five years post-retirement or 100% salary to spouses for 10 years if employees die before retirement. Plans require third-party administrators costing $1,900-2,000 annually, handling up to three people per plan.
Executive Bonus Plans and Section 162 Benefits 00:17:02
Dennis Parrish explained executive bonus plans where key employees own policies and name beneficiaries, contrasting with deferred compensation. Business owners get immediate tax deductions on contributions like $20,000 annually, while employees pay taxes on contributions. Double bonusing covers employee tax burdens, and retirement provides tax-free cash value access for supplementation.
Family Business Succession Planning Applications 00:21:00
Dennis Parrish highlighted succession planning applications where parents fund children's future business buyouts through current contributions, providing immediate tax deductions while solving next-generation cash flow challenges. He noted that 70% of small businesses lack succession plans, creating vulnerabilities when owners become disabled, die, or exit.
Case Studies and Real-World Applications 00:32:54
Alex Parrish shared a current case involving a business owner with a key employee running 95% of operations, implementing creative compensation during the underwriting process. Dennis Parrish provided a success story of four business owners using buy-sell agreements with investment-grade life insurance, distributing $5.5 million tax-free to retiring partners without burdening remaining owners.
Tax Benefits and Market Advantages 00:28:13
Dennis Parrish emphasized business owners' need for tax relief, noting the top 50% of wage earners pay 90% of taxes amid $36 trillion national debt. Alex Parrish highlighted life insurance's ability to guarantee future tax treatment, potentially beating traditional investments by 24-35% through tax savings alone, making returns secondary to tax advantages.
Client Relationship Management and Implementation Timing 00:43:11
Dennis Parrish described meeting requirements of every six months for new clients' first two years, then annually, returning to six-month intervals near retirement. Alex Parrish emphasized the importance of not delaying implementation, as younger ages provide greater benefits, and encouraged business owners to explore these options regardless of current advisor relationships.
