Retirement Planning and Microsoft DCP

Navigating Microsoft’s Deferred Compensation Plan (DCP) can be as challenging as it is beneficial.

For Microsoft employees who are Level 67 or above, the Microsoft DCP is an essential piece of your retirement planning strategy.

Like your 401(k), the Microsoft DCP allows you to defer a portion of your taxable income while providing you with additional income in retirement.

Microsoft DCP May Provide Significant Tax Savings Over Time

One of the key benefits of participating in Microsoft DCP is the ability to reduce your tax bill now by deferring income earned while in a higher tax bracket.

You will pay taxes on this income later, typically in retirement when your income is lower, and when you are most likely in a lower tax bracket.

Strategies for Optimizing Microsoft DCP  

Maximizing the tax benefits associated with DCP requires thoughtful planning in three key areas:

Amount to Defer:

Deciding how much income to defer each year impacts your current and future cashflow needs. You will want to make sure you have a strategy in place to cover your expenses.

Investment Allocation:

Similar to your 401(k), the income you defer is invested to help maximize growth over time.

Payout Strategy:

Choosing the right payout option is crucial. It requires forecasting future income sources to help ensure you don’t create a tax problem for yourself in the future.

How Much Should I Defer?

Executive Compensation Overview Microsoft

As a Microsoft employee, you receive a salary, earn cash bonuses, and are given stock awards.

Salary and Cash Bonuses:

With DCP, you can strategically manage how much of your salary and bonuses are taxed each year.

There are 2 DCP enrollment windows:

May 1-31: Defer your bonus:
During this time, you decide how much of your next year’s bonus to defer; you can defer up to 100%.

Nov 1-30: Defer your salary:
During this time, you decide how much of your next year’s salary to defer; you can defer up to 75%.

Stock Awards 

When it comes to your Restricted Stock Units (RSUs), the situation is different. You don’t have control over when your stock vests. On the day your RSUs vest, their market value is considered taxable income, regardless of whether you sell the stocks or hold onto them.

Understanding these nuances can help you make informed decisions about your compensation and maximize your deferred comp benefit.

Cashflow Strategy with Your Microsoft RSUs

Your RSUs represent a large portion of your income – income that comes to you in the form of company stock.

We encourage you to look at these RSUs as a bonus that you receive every quarter and suggest selling your RSUs as they vest.

You can use the proceeds to replace the income you defer using DCP. This approach offers several benefits:

  • The proceeds can be used for daily living expenses or reinvested in a brokerage account.
  • There are typically no tax advantages to holding on to your RSUs.
  • Selling your RSUs when they vest helps prevent you from having a concentrated position of MSFT stock in your portfolio.

How are My Funds Invested?

Once we have determined how much you will defer, we establish your investment allocation.

We make sure to consider your current and long-term financial goals when deciding what is appropriate for you. In our opinion, the investment options within DCP are more robust than what you will find within your 401(k).

How do I Decide My DCP Payout?

This is the most complex part of DCP.  Deciding when to receive your payout and managing the timing of multiple DCP distributions is tricky.

In this video, we talk through a scenario where a Level 68 executive sets her payout distribution “At Termination.” This isn’t uncommon and for many it seems the most logical – I should start receiving my distributions once I stop working.

NOTE: The “At Termination” option is also your default election if you don’t make one.

The “At Termination” option is the most restrictive. You cannot make a change to your decision later if your employment changes unexpectedly.  Oftentimes we are not in control of when employment may end. This means you could end up receiving a large sum of income when you may not want or need it.

The Importance of Income Forecasting

For each deferral you make, you must also decide when you want to start receiving your money and over what time frame.

In addition to “At Termination” you can decide to receive your payout in a specific month/year. You can elect to receive your payout as a lump sum or have it distributed over a 3-15-year installment plan.

If you have worked at Microsoft for several years and have made multiple DCP elections, it’s important to think about when those are set to payout. You should consider other future sources of income:

  • Microsoft Retirement 55/15 Rule
  • Social Security
  • Required Minimum Distributions (RMDs)
  • Income if you choose to work after you leave Microsoft.
  • Retirement income from your spouse or partner.

You want to think about what retirement might look like and integrate that with the timing of your DCP distributions.

Constructing a long-term cashflow plan can help you structure payouts to coincide with years of potentially lower taxable income.

Have Questions? We Are Here to Help.

If you are considering enrolling in Microsoft DCP or are already enrolled, we encourage you to reach out with questions.  

Managing DCP correctly can be overwhelming, and mistakes can be challenging to correct.

We work with Microsoft executives like you.  Our team is here to help you navigate the complexities of DCP and to ensure you’re fully optimizing all your Microsoft benefits.