A supplemental executive retirement plan is a deferred compensation agreement between the company and the key executive whereby the company agrees to provide supplemental retirement income to the executive and his family if certain pre-agreed eligibility and vesting conditions are met by the executive. The plan is funded by the company out of cash flows, investment funds or cash value life insurance. Any deferred benefits are not currently taxable to the key executive. When paid, the benefits become taxable to the executive as income and tax deductible to the company. A typical example of a plan would provide the executive a retirement benefit from all employer provided retirement benefit plans equal to 70% of the executives high three year average compensation.
An important point to make is that there are often two components of a SERP which need not be related; the SERP agreement & the funding source. Once a benefit amount for the executive is determined, it will be outlined in a SERP agreement. The company can then choose to fund with mutual funds, life insurance or simply from company cash flows.