As consultants in the credit union movement, we often hear, “Our CEO is planning to retire in five years, and we haven’t put any kind of retirement program in place. What can we do now?”
We wish we could provide a time machine, and fly back through the years to a place where a credit union could develop a long-term executive compensation/retirement strategy.
But we can’t. So, what we do is work with credit unions to build a retirement plan for both the retiring and next CEO in the timeframe they have that is meaningful, reasonable, and affordable.
First, how big is the problem? What is already in place? Opinions vary about the right level of replacement income at retirement, but the most consistent answer is around 70% to 80%.
In the 2012 Executive Compensation Solutions Survey, more than 70% of all credit unions targeted a replacement level for their CEOs between 60% and 70%. Typically, a 401(k) plan delivers less than 25% to key executives, due to IRS limitations. The board will need to determine an income replacement target.
Next, the board should work with an expert to quantify what is already provided. This is determined by calculating the employer’s contributions to the 401(k), to any other retirement program and employer contributions to Social Security. There may also be legacy plans that may have been terminated or frozen, which provide a benefit and should be considered.
Once that is quantified, if the board has an income replacement target, and the amount covered through existing programs has been calculated, then we need to look at how to close a gap when time is short. It may be difficult, but it’s not impossible. The board should work with qualified consultants to design a plan that is meaningful to the CEO. Then, it is time to measure the potential cost and impact to the members. This means making the membership whole on any benefit promised.
Both the benefit and the funding of the benefit must be considered.
On the benefit side, the credit union must book a liability for any promised benefit, so that by the time the benefit is due, the liability is accrued. There are two sub-components to consider: The dollar amount of the promise, and the number of years to accrue it.
If the credit union is implementing a program for a larger management group, it should work with accountants to determine the benefit liability and the time horizon for booking it. A calculation of prior service liability, and potential amortization of that liability over a period of years, may provide some advantage.
However, it is critical to consult with accounting/actuarial professionals. It may be possible to pool the liabilities and accrue them over the average working lifetime of the entire executive group.
This could spread the benefit liability accrual over several years with less annual impact on the income statement. There must be a bona fide benefit plan for multiple participants, and the credit union’s accountants must sign off on the accrual schedule. This may be an avenue worth exploring. Alternatively, if that is not a viable option, the board will need to determine how much it can afford and whether than amount is still meaningful.
Offsetting the benefit accrual, by using “otherwise impermissible assets” to create a funding pool for “employee and officer” benefits, is allowed under NCUA regulations.
The funding period can be different than the accrual period. Using a funding vehicle with a long time horizon, such as corporate-owned life insurance, may allow the credit union to recognize gains from the funding immediately, while spreading the coverage over a pool of executives. Those gains may continue to be realized past retirement dates in order to fully fund the program and recover the cost of the benefit. The measure of the actual cost of the benefit should consider the funding assets.
It is important to see beyond the immediate problem—a retiring CEO with an almost-immediate need for a retirement benefit—and look to the potential of addressing not only current but future executive retirement needs, and planning for them in the long run. Using foresight even when addressing short-range problems can create endsight. This allows the board to avoid the same problem in the future, in a way that aligns the needs of the executive group with the long-term needs of the membership and the financial health of the credit union.
Bridget McNamara-Fenesy is a consultant at Executive Compensation Solutions. Contact (626) 914-2333 or email@example.com,