A Phantom Stock Plan is a type of Supplemental Executive Retirement Plan (SERP) where the key employee’s retirement benefit is tied to the future value of the corporation’s stock. Phantom Stock Plans can be left unfunded and paid out of cash flow when the benefits are due, or informally funded with life insurance. If informally funded with life insurance, the business is free to use policy cash values and death benefits to help fund or offset benefit obligations which could potentially be higher or lower than the future business value estimates that were determined when the plan was originally established.

There are many approaches to a Phantom Stock Plan, but two of the most commonly used are a stock appreciation
plan and a mirror plan:

• With a stock appreciation plan, key employees who are selected to participate are credited with a specific number of hypothetical shares by the business. Instead of transferring actual shares to the employee, the business creates an accounting entry in which plan
participants are credited with a specified number of “shares” whose value may rise or fall over time according to the formula selected to determine value. At the end of a specified time period, or upon predetermined events, such as death or disability, the employee is entitled to receive the value based on the appreciation of the hypothetical shares they were credited with.

• With a mirror plan, the benefit is based on the value of the hypothetical stock and its appreciation. So at the end of the specified time period, the value of the benefit is based on the total value of the hypothetical stock.

A Phantom Stock Plan offers both businesses and their key employees numerous advantages.

• Flexibility: Your company can select the key employees who will participate — and can offer different participants different benefit levels.

• Your company retains control: Your business can tie the benefit to corporate growth — without having to sacrifice equity in the company.

• Financial benefits: The life insurance policy grows tax-deferred and is listed as an asset in your corporation’s books.

• Tax advantages: Your business gets a tax deduction when it ultimately pays the benefit.

• The plan is relatively easy to implement: A typical Phantom Stock Plan requires only a board resolution and a Phantom Stock Plan agreement.

• The ability to share in your company’s success: Your employee will receive a benefit that’s tied to the performance of your business.

• Tax advantages: Employees are not taxed on the Phantom Stock Plan benefits until they are actually paid out.

If you are looking to help boost your top performers’retirement income, but don’t wish to give up any equity in your business, a Phantom Stock Plan, funded by life insurance, could be an ideal solution that can allow your company to recruit, retain, reward, and retire key employees.

1. Your company will engage an attorney to draft the Phantom Stock Plan agreement, specifying the terms and conditions for the executive to receive this benefit.

2. Your business complies with the “notice and consent” rules of IRC Sec. 101(j) with respect to employer-owned life insurance.

3. Your company purchases the policy on the executive’s life and pays the annual premiums.

4. Your business can take loans or make withdrawals from the cash value in the policy2 to pay the promised benefit.

5. The benefit payments from the Phantom Stock Plan are made to the executive.

6. Upon the executive’s death, the death proceeds are received by your company to recover its costs for the plan. Then, any amount still owed to the employee is paid to his/her family.