You got rich working for one company – Time to diversify

Many highly compensated executives earn a good portion of their money working for one company. That could cause problems for your retirement and your heirs. To align your assets with your financial and estate plans, a few financial changes are likely necessary.

For many corporate executives thinking about retiring soon, there’s plenty of financial planning to do first. This advice may sound odd since executives are well-paid. A rising stock market over the past decade and a strong economy also mean they’re probably better off now than ever.

One issue that an executive’s estate plan needs to address is the concentration of wealth tied to their employer. Many successful executives receive company stock options and restricted stock grants. They may also participate in retirement plans like 401(k)s and deferred compensation, all of which may contribute to an over-concentration in company stock.

An executive accumulates all of this wealth over several years, and a typical personal balance sheet might look like this:

• 35% company stock
• 25% insurance
• 15% real estate
• 15% non-qualified deferred compensation
• 10% in a 401(k) retirement plan

As retirement nears, many will need to diversify their portfolio. Doing so will help protect their wealth and may help align with their estate plan to maximize how much money their heirs will receive.

Consider what happened in January 2022 to see the impact of owning too much stock in one company. With inflation continuing to rise and the Federal Reserve forecasting multiple interest rate increases, many companies saw their stock prices fall by 10% or more. A person who retired at the end of 2021 with much of their wealth invested in their company’s stock could have experienced a significant decline in their net worth in just 30 days.

As retirement begins, stock options and restricted stock will likely continue to pay out, and group life insurance may end. The strategy shifts from accumulating wealth to prudently decumulating wealth in retirement.

To help protect your wealth while maximizing the amount of money your loved ones will inherit, here are four changes to consider as you approach or enter retirement:

1. Find a new home for your 401(k)s

Upon retirement, consider rolling funds from your company 401(k) plan into an individual retirement account (IRA). An IRA provides more investment choices, enabling an executive to better diversify their portfolio. An IRA may also offer lower fees.

2. Think ahead about taxes on your non-qualified retirement plans

Many high-income executives defer some of their income to non-qualified retirement plans, which is another way to save for retirement. Similar to a qualified 401(k) plan, pre-tax contributions are made to the plan and grow tax-deferred until a point in the future, often retirement, when the distributions are taxable to the employee. Non-qualified plans may include deferred compensation and supplemental 401(k)plans, and these plans can vary in several ways, such as how and when account balances are paid out.

For example, if a person has saved $1 million in a deferred compensation plan, company policy may call for it to pay out over 10 years during retirement. However, upon death, it will likely pay out immediately in a lump sum, making the balance subject to higher taxes because income may be pushed into a higher tax bracket. So, an heir who inherits $1 million could easily be forced to pay 40% of the proceeds in federal and state income taxes.

In my opinion, any executive who expects to receive deferred compensation during retirement needs to know the specific rules of their company’s plan under such circumstances.

3. Understand your stock options and restricted stock

Many executives understand they will pay income or capital gains tax once they exercise stock options. But when it comes to estate planning, many don’t know how options are treated at death.

Each company has its own policy, but many give an executive’s heirs up to one year after the death to exercise the stock options. After one year, unexercised options expire and are worthless. However, because options are granted at various times during an executive’s career, some may expire earlier than that. Again, it’s imperative that an executive understand the specific rules governing their stock option plan in the event of death.

Restricted stock is a bit different in that, unlike a stock option, the employee doesn’t need to take action to receive the shares. However, similar to options, the death of the grant owner can trigger a different vesting schedule. This means that heirs may receive shares of company stock at a different time than originally anticipated, and taxes will be due.

While income taxes are typically withheld from the stock option or grant proceeds, be careful; when your company or former employer withholds the taxes, they may not take out enough money to fully cover the associated tax.

4. Consider dropping your group life insurance

In their working years, many executives find that their company-provided group life insurance isn’t enough. And even if it is sufficient, it may make more sense to buy a private policy that provides additional coverage—often at a lower cost.

In theory, there should be no need for life insurance in retirement for the purpose of replacing a lost income due to death. Consequently, there is often a cost savings available by dropping excess life insurance coverage that’s no longer needed. For purposes other than replacing a lost income, there may still be a need for life insurance. However, retirement may be a good time to review whether a different type of life insurance policy may better suit the situation.

In retirement, a more appropriate and typical personal balance sheet that reduces concentration in company stock might look like this:

• 30% diversified taxable portfolio
• 30% real estate
• 25% IRA
• 10% company stock
• 5% life insurance

Making these simple changes may help achieve two goals: protect your wealth and align your estate plan so heirs can receive the maximum amount.

Diversifying from company stock can feel unsettling because it moves your money away from a company where you’ve worked for decades. After all, many executives who owe their wealth to one employer feel a sense of loyalty to—even ownership in—that company. But once you leave, the company will likely change. Instead, look toward the future to make the most of your hard-earned money. 

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