Secular trusts used with SERPs are designed to provide protection against the risk that the employer will declare bankruptcy or become insolvent and be unable to make payments.
In a addition, Secular Trusts used with SERPs provide protection for the employee against the the risk the employer is one day unwilling to make promised payments. For example, after being taken over by new ownership, which is the benefit of using a Rabbi Trust with a SERP affords.
As a result of the protection of the secular trust’s assets from the claims of the employer’s creditors, the executive is subject to current taxation of the SERP benefits. In some cases, however, a secular trust and its disadvantageous tax treatment are preferable to exposing the SERP benefits to the risk that the employer will not survive.
Thus, secular trusts offer the greatest amount of protection to ensure payment of SERP benefits by protecting them from the claims of the employer’s creditors and the possible decision by successor management not to pay SERP benefits. The downside to the trust is that it makes the benefits currently taxable to the plan participant.
Certain companies and industries—because of their exploitation of new technology, or for some other reason—are characterized by significant risk that can’t easily be transferred through insurance. The dot.com companies that were the fuel behind the high-tech market run-up of the 1990s are a good example. Many of these companies produced a lot of “paper” millionaires. However, when the dot.com bubble burst early in this century, many of those companies disappeared. If a key executive in one of these companies had participated in a SERP and did not use a secular trust, the benefits were probably lost when the company folded. In such a case, the secular trust would have been a far more desirable approach despite the income tax issue.