Lehman Bankruptcy Ruling Shows Risk of Deferred Compensation – New York Times

Photo A Lehman Brothers company sign being brought into Christies auction house in London for a sale in September 2010. Credit Ben Stansall/Agence France-Presse Getty Images

Judge Shelley C. Chapman of the Federal Bankruptcy Court in Manhattan has issued an opinion that provides an important reminder for employees throughout the United States who participate in deferred-compensation plans.

The opinion is from the long-running Lehman Brothers bankruptcy, but it applies to employees of all sorts of companies.

In short, the tax benefits you get from a deferred-compensation plan are not free, and by deferring compensation, you are taking on the credit risk of your employer.

In 1985, Shearson Lehman Brothers Inc. which later became Lehman Brothers Inc., Lehmans regulated broker-dealer established the deferred-compensation plan. In the plan, each employee agreed that:

the obligations of Shearson hereunder with respect to the payment of amounts credited to his deferred-compensation account are and shall be subordinate in right of payment and subject to the prior payment or provision for payment in full of all claims of all other present and future creditors of Shearson whose claims are not similarly subordinated.

The wording not only gives us some insight to gender issues on Wall Street in the 1980s, but also drives home the point that the employers obligation to pay the deferred compensation is an unsecured obligation. In this case, a deeply subordinated one. These employees were no better than subordinated bondholders of Lehman Brothers.

The employees had several novel arguments for why they should, at least, get out from under the subordination provision in the agreement, but the court rejected them all. The court also rejected the argument that Lehmans alleged breach of the deferred-compensation agreement would remove the employees obligation to subordinate their claims. The court explained that unlike an ordinary contract dispute, the present case involved the simple question how to treat the employees claim in bankruptcy.

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Lehman Bankruptcy Ruling Shows Risk of Deferred Compensation - New York Times