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CASD SERPs-worth a close look.

Murphy's law says that anything that can go wrong, will. Recently, some have applied Murphy's law to what's known as a collateral assignment split dollar supplemental retirement plan. Having helped credit unions nationwide establish CASD SERPs, I think the recent critiques are extreme and misleading and that a more balanced picture is needed.

In a CASD SERP, a life insurance policy is purchased by a credit union executive and his employer pays the premiums. Those premium payments are treated as loans to the executive. The executive signs a note for the premium advances, but repayment will almost always come from the policy death benefit, on which the credit union holds a lien, so that the credit union incurs little or no out-of-pocket cost in providing the retirement benefit. Upon retirement, the executive borrows against the policy's cash value an annual amount that is projected at the outset, but ultimately is determined by the investment performance of the insurer.

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Because CASD SERP benefits take the form of policy loans, they are nontaxable to the executive, so a CASD SERP benefit goes 30% to 45% further in after-tax purchasing power than other types of retirement benefits of the same amount.

Critics say yes, if all goes according to plan, CASD SERPs work very well but then ask what happens if various potential problems occur. Let's look at some of the more frequently cited risks of CASD SERPs and assess from experience their likelihood and ways to mitigate the supposed harm:

The life insurance policy doesn't achieve the investment results forecast. As with any retirement investment, poor performance is bad news. In our experience, however, CASD SERPs are less vulnerable than other types of SERPs to investment risks because CASD SERPs almost always include guaranteed minimum investment returns, backstopped by the insurer's own substantial capital, providing protection against market volatility, and, as a practical matter, the investment expertise and diversification of major life insurance companies will outperform the stock and fund-picking skills of individual credit unions. Indeed, many of our clients' CASD SERPs have enjoyed returns above 8% in recent years.

Something causes the CASD SERP to terminate prematurely. One critique against CASD SERPs is that they can crash and burn financially if the covered executive's employment ends prematurely, before their benefits are fully vested or before the accumulated policy cash value equals total premiums paid. If managed properly, a CASD SERP will weather a premature employment termination with no loss to the credit union or the executive except for the executive's loss of unvested benefits. If the executive's employment ends prematurely, different scenarios can result, as described below.

Executive dies before retirement. In this case, the CASD SERP will pay the executive's designated beneficiary a specified death benefit and the credit union will be repaid all premiums paid, often plus an additional key man death payment. There are no financial complications here and the SERP simply ends.

Executive is fired for defined cause. In this rare scenario, a CASD SERP will typically deny the executive all vested benefits and make the credit union the sole owner of the policy. The credit union will have several options, including early policy surrender, retention/continued funding of the policy until cash surrender value exceeds premium investment or reuse of the policy for another key employee. None of these scenarios should cause the credit union any financial loss.

Executive's employment ends early for other reasons. Here, the consequences will depend upon the terms of the plan but usually will involve splitting the CASD SERP, where the executive receives a policy equal to their vested benefit and the credit union gets a policy for the rest. If the executive was fired without cause, the credit union usually will be required to pay the executive's vested percentage of all future remaining premiums, but if the executive quits early, the credit union often will have no further obligation to pay premiums but might choose to do so as a favorable investment and best way of ensuring eventual repayment of all its premium payments without the need to pursue the executive on their note. How an early employment termination affects the executive and the credit union will vary based upon the specific facts, but in our experience all involved parties will cooperate to avoid any financial loss, other than the unavoidable cost to the executive of losing future, unvested benefits.

Accounting issues. If a CASD SERP is designed (as most now are) to include both recourse, interest-bearing promissory notes from the executive and an automatic acceleration of any premium payments coming due after the executive retires, there should be no adverse accounting effects of a CASD SERP.

CASD SERPs are available to all federal credit unions without prior regulatory approval and to most state charters, whether automatically under parity powers or in other cases with prior notice to, or application to and approval by, the regulator. In all cases, a CASD SERP is subject to ongoing safety and soundness regulatory oversight, requiring credit union board due diligence in selecting the insurance company, properly sizing the premium cost and benefits and monitoring the ongoing investment performance of the SERP.

Steven Eimert is a partner and chair of the credit union practice at Sherin and Lodgen LLP.

Contact

617-646-2283 or sdeimert@sherin.com
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Title Annotation:GUEST OPINION
Author:Eimert, Steven
Publication:Credit Union Times
Date:May 1, 2013
Words:883
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