A rabbi trust is a trust established by an employer to provide a source of funds which
may be used to satisfy the employer's obligation to executives under a non-qualified
executive benefit plan. The trust is referred to as a rabbi trust because the first IRS
letter ruling with respect to this type of trust involved a rabbi whose congregation had made contributions to such a trust for his benefit. The ruling stated that the rabbi
would not be taxed on the funds in the trust until the funds were actually distributed
to the rabbi or his beneficiary upon his death, disability, retirement or termination of
employment.

Typically, the rabbi trust is established as an irrevocable trust. The employer must
Give up all rights to the assets in the trust and may not terminate the trust. The trust
is also usually considered a grantor trust, with income being taxed to the grantor,
usually the employer.

The primary purpose of the rabbi trust is to offer some limited level of security to
the employee with respect to their nonqualified benefits. This is especially true for
a Nonqualified Deferred Compensation Plan (NQDC) where the employee defers compensation with only the contractual promise of the employer to pay the benefits. Employee deferrals may be placed in the rabbi trust as deferrals are made. If a rabbi trust is "locked", funds placed in the trust may not revert back to the employer until all
benefit obligations have been satisfied.

How much security is really provided? A key important feature of any rabbi trust
is that the assets in the trust must be subject to the claims of the employer's creditors at all times. If the employer becomes insolvent, all trust assets become available to the employer's creditors, including the NQDC participants. In other words, if insolvency or bankruptcy occurs, the NQDC participants stand in line with other
employer unsecured creditors. The security offered by the rabbi trust is for
" Change of mind: The employer may not access the assets in the trust once
they have been contributed. " Change in control: A friendly or unfriendly takeover will not affect the assets in the trust. Some rabbi trusts have a trigger that
requires full funding of designated benefits upon a change in control. This is addressed in the plan document

IRS Positions on Rabbi Trusts

The IRS has ruled that the establishment of a rabbi trust would not in itself cause a
nonqualified plan to be considered funded for tax purposes since the assets are subject
to the claims of creditors, and are not set aside solely for the benefit of participants.
In Rev. Proc. 92-64, the IRS stated specific criteria that are necessary to obtain a
Favorable ruling on a rabbi trust used in connection with nonqualified plans. The Revenue Procedure contains a model rabbi trust that is intended to serve as a safe
Harbor for taxpayers who adopt and maintain the model trust in connection with nonqualified plans.

Rabbi Trusts and ERISA

The Department of Labor (DOL) has ruled that the establishment of a rabbi trust
will not in itself cause a nonqualified plan to be considered funded for ERISA
purposes. Not would the transfer of assets cause the plan to be considered funded.
The consequences of a plan being considered funded for ERISA purposes are that the plan would have to satisfy all the requirements of Title 1 of ERISA with cover participation, vesting, funding, fiduciary and enforcement requirements.

Taxation of Rabbi Trusts

A rabbi trust is considered a grantor trust for income tax purposes. Any trust income
is taxed to the employer who established the trust. Contributions to the trust are not
income tax deductible by the employer. However, the employer may deduct the full
amount of the benefit payment as the trust makes payments to the plan participants.

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