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In the United States, a Rabbi trust is a type of
trust Trust often refers to: * Trust (social science), confidence in or dependence on a person or quality It may also refer to: Business and law * Trust law, a body of law under which one person holds property for the benefit of another * Trust (bus ...
used by businesses or other entities to defer the taxability to the person or entity receiving (the
payee A payment is the voluntary tender of money or its equivalent or of things of value by one party (such as a person or company) to another in exchange for goods, or services provided by them, or to fulfill a legal obligation. The party making the ...
) such payments as
employee compensation Compensation and benefits (C&B) is a sub-discipline of human resources, focused on employee compensation and benefits policy-making. While compensation and benefits are tangible, there are intangible rewards such as recognition, work-life and de ...
or purchase payments in the acquisition of another business.


History

The first such trust set up was for the benefit of a rabbi, resulting in the name Rabbi Trust. Revenue Procedure 92-64 further clarified the acceptable rules for Rabbi trusts along with a model trust document and the required features to avoid constructive receipt of income to the employee.


Applications

An example of a Rabbi trust applying where an employee receives compensation the taxation of which is deferrable is a
nonqualified deferred compensation In the United States, the question whether any compensation plan is qualified or non-qualified is primarily a question of taxation under the Internal Revenue Code (IRC). Any business prefers to deduct its expenses from its income, which will reduce ...
plan. A Rabbi trust may be applicable when one business purchases another business but wants to set aside part of the purchase price and defer payment as well as taxability to the payee upon the satisfaction of conditions to which both parties agree.


Non-qualified deferred compensation plans

A non-qualified deferred compensation plan is one under which current income of an employee is deferred and therefore not taxable to the employee. An employer sets aside assets in a separate
trust Trust often refers to: * Trust (social science), confidence in or dependence on a person or quality It may also refer to: Business and law * Trust law, a body of law under which one person holds property for the benefit of another * Trust (bus ...
for the employee in the future. Ordinarily, this would cause current inclusion into gross income even though the employer has yet to reduce the money to income because of the economic benefit theory doctrine. Funds deposited in such a plan permitted by a
private letter ruling Private letter rulings (PLRs), in the United States, are written decisions by the Internal Revenue Service (IRS) in response to taxpayer requests for guidance. A letter ruling is "a written statement issued to a taxpayer by an Associate Chief Counse ...
would not result in income, according to Section 83(a) of the Code, if the assets of the trust were available to the employer's general creditors. This is because until the employee is vested, that employee is under a substantial risk of forfeiture and under Section 83(a) and accompanying regulations 1.83-1 and as such is not subject to current inclusion into that employee's gross income. All non-qualified deferred-compensation plans must involve substantial risk of forfeiture or other methods of avoiding constructive receipt, such as conditioning payment upon performance of future conditions or service. The unique feature of the Rabbi Trust is that the money placed into the trust is protected from changes of heart of the employer. Once placed in the trust, the money cannot be revoked by decisions made by the employer. As long as the employer's financial position is sound, the money in a Rabbi Trust is considered to be relatively safe. However, if an employer files for bankruptcy protection, the money may be subject to the claims made by that employer's general unsecured creditors.


Acquisition of a business

When one business purchases another business, the purchasing business may want to set aside part of the purchase price and defer its payment to the payee upon the satisfaction of conditions to which both parties agree. A Rabbi trust may be used in this situation to defer the taxability to the payee of the deferred payments of the purchase price. For the Rabbi trust to be successfully applied, there must be a real risk of forfeiture upon the failure by the payee to fulfill the agreed upon conditions. If the condition is impossible to fail, then
constructive receipt For federal income tax purposes, the doctrine of constructive receipt is used to determine when a cash-basis taxpayer has received gross income. A taxpayer is subject to tax in the current year if he or she has unfettered control in determining wh ...
may overcome the successful application of the Rabbi trust.


Impact

{{Expand section, date=May 2008 The Rabbi trust allows the deferment of compensation whether employment income or the purchase price of a business acquisition, and the absence of this would result in the taxability to the payee of the compensation not yet received by the payee. This would serve as a disincentive for deferring such payments.


See also

*
457 plan The 457 plan is a type of nonqualified, tax advantaged deferred-compensation retirement plan that is available for governmental and certain nongovernmental employers in the United States. The employer provides the plan and the employee defers comp ...
* Internal Revenue Code section 61 *
Crummey trust In the United States, a Crummey trust is a trust Trust often refers to: * Trust (social science), confidence in or dependence on a person or quality It may also refer to: Business and law * Trust law, a body of law under which one person holds ...


External links

*https://web.archive.org/web/20061207134726/http://www.finance.cch.com/text/c40s10d440.asp *http://www.nysscpa.org/cpajournal/2003/0303/features/f033403.htm Wills and trusts United States federal income tax