Understanding Key Elements of a Salary Continuation Plan

A person with an orange wristwatch is holding a white paper airplane while standing on a high floor, contemplating their Salary Continuation Plan as they overlook a bustling cityscape with numerous buildings.

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Similar to non qualified deferred compensation plans, a salary continuation plan is designed to provide supplemental future benefits to selected key executives. These are often used to buffer existing benefits, or add new ones for key employees.

Key Takeaways of Salary Continuation Plan

  • Salary continuation plans are 100% employer-funded and typically use whole or universal life insurance to build tax-deferred value and provide retirement or death benefits to select executives.

  • Benefits received by the employee are taxed as ordinary income, but the employer receives a tax deduction at the time the benefit is paid, not when premiums are paid.

  • Plan participation is selective and may include vesting schedules, which can help retain top talent by tying benefits to continued employment.

  • These plans are not related to employer’s paid leave policy, workers compensation, or work-related injury, and should not be confused with wage continuation due to absence or sick leave.

  • Companies may recover the cost of the plan over time through policy control and structured agreements, making it a financially strategic program when planned correctly.

What is a Non Qualified Salary Continuation Plan?

Salary continuation plans are implemented by companies to provide additional supplemental retirement income to selected key executives. The plans are funded 100% by the company for the future benefit of the key employee. Should the plan participant die prematurely, the executive’s beneficiary would receive the benefit. Usually funded with permanent cash value life insurance, a salary continuation plan can be designed so that the company can recover its cost while at the same time provide an income tax free deferred benefit to the key employee.

How Does a Salary Continuation Plan Work?

The company and the key executive enter into an agreement that states the business will pay a specified amount each year at retirement or contribute a certain amount of money into the plan until the executive retires, becomes disabled, dies, or is otherwise separated from employment with the company. With a salary continuation plan, the employee has no out-of-pocket expenses.

The company sets aside funds to contribute to the plan. In most cases, the key employee’s interest is subject to vesting schedule established at the company’s discretion.

At retirement, disability, death, or separation from the company, the key executive, or her beneficiary will receive the benefit stated in the agreement. Any benefit received by the key employee is taxed as ordinary income. The company receives a tax deduction at the time it pays the salary continuation benefit.

Funding and subsequent payment of benefits is at the discretion of the company. Any informal funding is subject to the claims of the creditors of the company.

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Salary Continuation Plans Using Life Insurance

Whole life or universal life insurance is an excellent vehicle to informally fund a salary continuation plan. Life insurance is unique in that it can provide death benefits prior to retirement and tax deferred cash value accumulation for retirement income.

In a non qualified salary continuation plan using life insurance, the company owns and is the beneficiary of the policy on the key executive’s life. The company also pays the premiums and controls the policy’s cash value.

Company Advantages with Salary Continuation Plans

1. Non qualified salary continuation plans are relatively simple to implement and easy to understand.
2. Salary continuation plans are excellent tools companies can use to retain and reward key executives.
3. The company can selectively choose plan participants.
4. Vesting schedules can be effectively used to “tie up” key executives.
5. Plans are flexible and costs can be recovered.

Employee Advantages with Salary Continuation Plans

1. Salary continuation plans provide a supplemental source of retirement income for key executives in addition to any qualified retirement plans.
2. May provide death benefits if agreed to in the plan.

Salary Continuation Plans and Taxes¹

When using cash value life insurance to fund a non qualified salary continuation plan, there are several important tax considerations.

  1. Life insurance premium payments made by the company are not immediately tax deductible.
  2. When deferred benefits are paid to the key executive or his beneficiaries, the company can deduct the amount of the benefit payments.
  3. All benefits of the salary continuation plan received by the employee or his or her beneficiaries are taxable as ordinary income.

Other Executive Compensation Strategies include:

¹ This information is for illustrative purposes only. MEG Financial and its representatives are in no way providing tax or legal advice. Please consult your CPA or tax attorney for any questions on the taxes as they relate to your specific circumstances.

Frequently Asked Questions about Understanding Key Elements of a Salary Continuation Plan

What Does Salary Continuation Benefits Mean?

Salary continuation refers to an employer’s commitment to paying salary continuation benefits to a selected employee (typically a high-ranking executive), after retirement, disability, or separation. These payments are structured in advance and outlined in a written agreement. Unlike income replacement for an injured worker under a workers comp claim, salary continuation is not based on a waiting period or temporary total compensation, but rather designed to provide assistance in the form of long-term retirement income. It does not depend on the employee’s injury status or medical eligibility.

Who Funds a Salary Continuation Plan?

The injured worker’s employer, or in this case the executive’s employer, fully funds a salary continuation plan. This means there are no paycheck deductions or out-of-pocket costs for the employee. Most often, the plan is informally funded using a permanent life insurance policy owned by the company.

Is Salary Continuance Insurance Worth It?

It’s important to distinguish between salary continuation plans and salary continuance insurance, which can refer to short-term disability income policies. For executives, a salary continuation plan, funded and managed by the employer, can be a valuable part of other benefits offered, especially when combined with long-term financial planning. For employers, such plans may save money over time by enhancing retention and rewarding loyalty without offering large up-front payouts.

What Is the Difference Between Salary Continuation and Severance?

Salary continuation is a planned and approved long-term benefit program designed for key executives, typically kicking in at retirement, disability, or death. It provides a steady stream of income and may even include full salary benefits depending on the terms of the plan. Severance, on the other hand, is typically offered to any employee at the time of layoff or termination and usually involves a lump sum or limited-period payment.

Conclusion and Summary of Understanding Key Elements of a Salary Continuation Plan

A salary continuation plan is a strategic compensation tool that allows an employer to provide additional retirement income or death benefits to select key executives without requiring employee contributions. Funded entirely by the company, typically through cash value life insurance, these plans are structured to defer income until retirement or another qualifying event like disability or death. While the benefits paid are taxed as ordinary income, the employer can claim a tax deduction at the time of disbursement.

This structure offers flexibility in plan design and participant selection, making it an attractive way to retain top talent while aligning with long-term company goals. Unlike a traditional workers comp claim or an employer’s paid leave policy, salary continuation programs are not mandated and are not related to work-related injury or sick leave, but instead serve as a form of non qualified deferred compensation to reward and retain leadership. When properly structured, these plans can supplement full wages during retirement and help the employer manage executive compensation efficiently without immediate tax consequences.

Written by

Owner & Licensed Agent
Michael E. Gray, Jr., founder of KeyPersonInsurance.com, is a trusted insurance agent licensed in all 50 states. With over two decades of experience, he has served 5,000+ clients and secured over $3 billion in life insurance.
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