Page 354 - Bruce Ellig - The Complete Guide to Executive Compensation (2007)

340 The Complete Guide to Executive Compensation

from the employee’s pretax rather than after-tax dollars. Section 125 of the IRC defines and
describes the benefit that meets the eligibility for pretax treatment. The Revenue Act of 1978
requires that company contributions for such programs be considered income to the highly com-
pensated employee unless the plan meets nondiscriminatory standards in coverage and eligibility.
Advantages to the employee include preferential tax treatment and the ability to cus-
tomize benefit coverage among the choices provided. Advantages to the employer include
cost containment and providing an attractive benefit program for attracting and retaining
wanted workers.
In designing a flexible-benefit plan, first set down a set of principles to guide planning
and administration. They might include the following:

• Employees should not be permitted to opt completely out of life, medical, dental, and
disability coverage—a minimum should be established.
• Employees should be permitted to choose among benefit coverage, buying additional
benefits with payroll deductions (pre- or after-tax, depending on the plan selected) or
receiving in cash unused credits.
• The company cost for such benefits as life, medical, dental, and disability should not
be increased because of adverse selection.

How Do Flexible Benefits Work? Essentially, flexible-benefit plans come in two flavors:
add-on or plus-and-minus adjustments. Add-on benefit programs either add to existing
benefit plans or existing programs are scaled back to a new minimum. Employees are then
given a number of benefit dollars that they may use to purchase increased benefit coverage.
Normally, such choices are already packaged (e.g., four levels of medical coverage, two
levels of dental insurance, and three levels of life insurance). To minimize selecting against
the plan (e.g., buying dental insurance for six months to get teeth fixed and then shifting
to medical for another six months to take care of elective surgery), there are various time
periods of minimum coverage (e.g., two years for dental). The plus-and-minus approach to
customized benefit design begins with the existing benefit plans but provides opportunities
for employees to reduce coverage in some areas in order to gain more in others.
The company establishes a formula for determining the number of credits each employee
receives. Typically, this is based on salary. An additional factor may be added for spouse and
children. The reason for the additional factor is that health-care plans (medical and
dental) cost more for family than single coverage. However structured, these plans are easy
to install if the employee can opt for exactly the same coverage currently provided under the
master plan at no additional cost to the individual.
Corporate cost-containment measures take several forms. First, a company is not com-
pelled to introduce new programs that it partially or completely underwrites. It simply includes
them under the flexible-benefits umbrella and allows employees to purchase if they wish. The
second advantage is that each year the company determines what, if anything, to do with the
credit-generation formula. If there is no change and benefits are rising, the employee will pay
the increased costs. Alternatively, there could be some degree of sharing with the company.
Customized benefit programs are attractive to executives in that they can shed unneces-
sary life insurance in order to pick up additional health-care coverage or place additional
monies in a defined-benefit plan where the investment growth will be sheltered from taxes.
The ability to make such selections was enhanced by the Miscellaneous Revenue Act of 1980.
It permits the employee to make three-way trade-offs among cash, benefits, and deferred