Florida Banking March 2022

BANCSERV ENDORSED PARTNER: NFP

NON-QUALIFIED DEFERRED COMPENSATION: A POWERFUL LOSS PREVENTION TOOL F L O R I D A B A N K E R S A S S O C I A T I O N

BY GLENN BLACKWOOD AND JOE SCHAEFER

W hen we think of loss prevention, insurance often comes to mind. Insurance policies exist to protect against the sudden financial loss of an unexpected event. By nature, insurance is a tool to reduce risk and financial burden. For example, banks insure their physical branches, vehicles, liability, and cyber security risk, so why not insure against the loss of your most valuable asset – your people? For a bank, a Non-Qualified Deferred Compensation (NQDC) or Supplemental Executive Retirement Plan (SERP) can be a powerful loss prevention tool and can behave like an insurance policy to do just that. When a business offers a SERP to an employee, the intent is not merely to deliver additional compensation, but rather to accomplish several

key employee leaves an organization. The employee experiences the pain of leaving behind any unvested portion of the benefit while the organization incurs a host of unexpected costs, both direct and indirect, when a key employee departs. This double-edged pain is precisely what NQDC, such as a SERP, aims to prevent. While the impact associated with the loss of a key employee will be felt differently by each bank, consider the following example of what it could look like, in terms of lost revenue, if a top loan officer was to quit and take 30 percent of his relationships to a competing organization. Assumptions: • Lender manages a $40 million loan portfolio with 4 percent margin ($1.6 million in annual revenue) • $10 million per year in new loan growth • 30 percent of the total

objectives, as follows: (1) to provide equitable retirement benefits to its senior management team whose benefits are often restricted by limitations from ERISA and IRS guidelines, (2) to attract talent by providing a well-rounded and meaningful compensation program, and (3) to protect itself against the financial loss that would occur if the employee were to leave for another organization, which brings us to the main focus of this

“ THE COST OF LOSING AND EFFECTIVELY REPLACING KEY EMPLOYEES FAR OUTWEIGHS THE COST OF USING A NQDC PROGRAM AS A LOSS PREVENTION TOOL. ”

portfolio would be $12 million in existing loans lost to a competing bank Based on these assumptions, if $12 million in loans were to leave the bank in year one, that would equate to $480,000 in lost revenue. The $10 million of new loans not generated results in another $400,000 lost revenue opportunity, for

article. In these situations, we are discussing key employees who are leaders or significant members of the team who directly impact the economic success of the organization. In this context, a SERP acts as an insurance policy and loss prevention tool that organizations use to reduce the risk of losing strong contributors. The insurance element is achieved via the documented vesting provisions of the SERP contract. In terms of loss, it is important to understand that the knife cuts both ways when a

a total loss of $880,000 in year one. This lost revenue could continue in year two, year three, or until the bank replaces both the lender and the lost business. Now imagine the compounded loss if this lender was the CLO and took others on the team with them. The cost of losing and effectively replacing key employees far outweighs the cost of using a NQDC program as a loss prevention tool. Because no two employees are alike, the primary advantage of using NQDC to reduce risk is its high degree of flexibility.

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