What is a Top Hat Plan?

A top hat plan refers to a kind of a non-funded plan sponsored by the employer of a company. Its aim is to offer deferred payments to the employee group meeting specific criteria. Usually, top executives and directors are members of a top hat plan. Top hat plans are not similar to basic employer-sponsored retirement plans including 401(k). Top hat plans are not eligible for tax exemptions unlike employer-sponsored plans. Hence, its participants don't receive tax privileges like an opt-in employer-sponsored scheme. As the name suggests, there is a specific list of employees that qualify for top hat plans benefits. Every firm has its own membership obligations for the plan, and it doesn't allow everybody to participate in it. Companies that have a similar status in the market can also have varied plans.

How Does a Top Hat Plan Work?

As top hat plans are not funded, it signifies that the amount of contributions made is not kept in trust for the workers or employees. The employer or the company own the assets until the employee makes an exit from the organization. It is up to the employer to choose participants for the plan and can ascertain the extent of contributions made. A non-qualified deferred compensation scheme lets members to hold income into the plan for every financial year. The employer completely funds the supplemental executive retirement plan.

Advantages and Disadvantages of a Top Hat Plan

Regulatory institutions don't have to conduct non-discrimination inspection for a top hat plan which turns out to be one of its advantages. It is up to the members to make contributions of any amounts unlike conventional retirement plans where the amount is restricted. However, the amounts contributed to top hat plans are liable for taxation. This means that distributions derived from top hat plans are prone to taxation laws. Also, top hat plans face less of governmental obligations. Usually, they are free from many provisions associated with the funding, participation, and vesting. Besides, top hat plans also prevent many obligations based on accrual and fiduciary terms. The Employee Retirement Income Security Act regulates a top hat plan. Hence, it becomes mandatory for it to match some particular requirements and reporting based policies. For example, the Internal Revenue System has to send reports of every contribution and employer deferral to top hat plans. These contributions can be seen on the plan sponsors Form-W2. The plan may comprise of certain information like loans, age-based catch-contributions, etc. Also, it is mandatory for the plan to go for top hat status with the Department of Labor followed by keeping a separate record of the application.

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