Financial Planning Strategies for Highly Compensated Employees (HCEs)

Perspective on Turning High Income into Lasting Wealth

If you’re reading this, you’re likely navigating a compensation structure that includes more than just a paycheck. Stock options, restricted stock, performance bonuses, deferred compensation: these tools can be incredibly powerful, but they also introduce complexity that many high earners underestimate.

I often remind clients that building wealth as a Highly Compensated Employee (HCE) isn’t about how much you make, it’s about how intentionally you manage what you keep. The tax code, retirement plan rules, and investment decisions that apply to high earners are different, and without a coordinated strategy, it’s easy to leave money on the table or take on unnecessary risk.

Let’s walk through the key planning considerations every HCE should understand and how to approach them strategically.

Why Financial Planning Is Different for Highly Compensated Employees

High income creates opportunity, but it also creates constraints. Contribution limits, phase-outs, alternative tax systems, and concentrated equity exposure all tend to affect HCEs disproportionately.

The goal of effective planning is to:

• Improve after-tax outcomes

• Reduce concentration risk

• Create flexibility around cash flow and retirement timing

• Protect wealth from avoidable risks

Achieving this requires more than picking investments; it requires coordination across tax planning, retirement planning, investment strategy, and estate planning.

Financial planning documents on a desk

Core Financial Strategies for HCEs

1. Maximize Retirement Contributions—Strategically

Most HCEs contribute to their 401(k), but optimization matters.

• 401(k) and Catch-Up Contributions: If you’re over 50, catch-up contributions provide additional tax-deferred savings.

• Backdoor Roth IRA: While income limits restrict direct Roth contributions, a properly executed backdoor Roth can create long-term tax-free growth.

• After-Tax 401(k) & Mega Backdoor Roth (if available): Some plans allow after-tax contributions that can be converted to Roth—an advanced but powerful strategy.

The key is understanding how your employer plan works and coordinating contributions to avoid failed nondiscrimination testing.

2. Diversify Beyond Employer Stock and Options

Equity compensation often leads to overconcentration in a single company, which increases risk even when the company is successful.

A disciplined diversification strategy may include:

• Gradual liquidation schedules

• Tax-aware option exercise planning

• Reinvesting proceeds across asset classes such as fixed income, real estate, or diversified equity portfolios

Your career already depends on your employer; your investment portfolio shouldn’t.

3. Implement Tax-Efficient Investment Management

Taxes are often the single largest drag on long-term returns for high earners.

Key considerations include:

• Favoring long-term capital gains over short-term gains

• Strategic asset location (taxable vs. tax-deferred vs. tax-free accounts)

• Ongoing tax-loss harvesting to offset realized gains

Investment returns matter, but after-tax returns matter more.

4. Evaluate Non-Qualified Deferred Compensation (NQDC) Plans Carefully

NQDC plans can be effective tools for:

• Deferring income during peak earning years

• Smoothing taxable income into retirement

• Managing marginal tax brackets

However, these plans come with credit risk, liquidity constraints, and distribution timing rules. A fiduciary Fee-Only Financial Planner will help evaluate whether deferral aligns with your long-term goals and employer stability.

5. Plan Proactively for Alternative Minimum Tax (AMT)

Incentive Stock Options (ISOs) can trigger AMT even when no shares are sold.

Proper AMT planning includes:

• Modeling exercise scenarios

• Coordinating ISO exercises with other income

• Timing exercises to minimize surprise tax liabilities

This is one area where proactive planning can prevent costly mistakes. The IRS periodically updates the definition and rules around who qualifies as a highly compensated employee. The latest changes affect how companies administer retirement plans and who is subject to certain nondiscrimination tests. Here’s what you need to know:

• Updated Compensation Thresholds

The IRS adjusts the income threshold annually. For 2026, the compensation cutoff is $160,000. If you earn above this, you’re considered an HCE for retirement plan purposes.

• Ownership Test

If you own more than 5% of the company at any time during the year or the preceding year, you’re automatically an HCE, regardless of your income.

• Impact on Retirement Plans

These rules affect how much you can contribute and how your employer’s plan passes nondiscrimination testing. Sometimes, HCEs face limits on contributions or matching funds to keep plans fair for all employees.

Understanding these rules helps you plan your compensation and benefits strategy better. It’s worth reviewing your status annually with your financial advisor to stay ahead.

Tax Planning Tips Tailored for HCEs

Taxes can feel like a maze, but with the right approach, you can keep more of what you earn. Here are some tax planning tips that work well for those with complex compensation packages:

1. Timing Your Income and Deductions

   If possible, defer bonuses or exercise stock options in years when your income might be lower. This can reduce your overall tax bracket.

   
   

2. Charitable Giving

   Donating appreciated stock instead of cash can provide a double tax benefit: you avoid capital gains tax and get a deduction for the full market value.

   
   

3. Health Savings Accounts (HSAs)

   If you have a high-deductible health plan, max out your HSA contributions. HSAs offer triple tax advantages: contributions are tax-deductible, grow tax-free, and withdrawals for qualified medical expenses are tax-free.

   
   

4. Tax-Advantaged Accounts Beyond 401(k)s

   Consider using a 529 plan for education savings or a Flexible Spending Account (FSA) for healthcare expenses. These accounts reduce taxable income and help you save for specific goals.

   
   

5. Work with a Tax Professional

   Given the complexity of your income, a tax advisor can help you navigate deductions, credits, and strategies specific to your situation.

   
   

Protecting Your Wealth: Risk Management and Estate Planning

Building wealth is one thing. Protecting it is another. Here’s how you can safeguard your financial future:

• Insurance Coverage

Make sure you have adequate life, disability, and umbrella insurance. These policies protect your income and assets from unexpected events.

• Estate Planning

Even if you don’t have a massive estate, having a will, power of attorney, and healthcare directive is essential. For larger estates, trusts can help minimize estate taxes and control how your assets are distributed.

• Succession Planning

If you own a business or have significant stock options, plan for what happens if you leave the company or pass away. This ensures your family and beneficiaries are protected.

• Regular Reviews

Life changes, tax laws change, and your financial situation evolves. Schedule annual reviews with your advisor to keep your plan up to date.

Financial advisor discussing estate planning documents

Understanding the IRS Rules for Highly Compensated Employees

The IRS definition of an HCE directly affects retirement plan contributions and testing.

Current HCE Criteria (2026)

• Compensation Test: $160,000 or more in prior-year compensation

• Ownership Test: More than 5% ownership of the company at any time during the current or prior year

Why This Matters

HCE status impacts:

• Contribution limits

• Employer matching

• Refunds of excess contributions due to failed nondiscrimination tests

Reviewing your HCE status annually ensures there are no surprises and allows for proactive adjustments

Advanced Tax Planning for High Earners

Effective tax planning isn’t about loopholes—it’s about timing, structure, and coordination.

Income and Deduction Timing

Deferring bonuses, option exercises, or income into lower-earning years can significantly reduce lifetime tax liability.

Charitable Giving Strategies

Donating appreciated securities can:

• Eliminate capital gains tax

• Provide a charitable deduction for the full market value

• Support causes you care about

Health Savings Accounts (HSAs)

When available, HSAs are one of the most powerful planning tools:

• Tax-deductible contributions

• Tax-free growth

• Tax-free withdrawals for qualified medical expenses

Other Tax-Advantaged Accounts

• 529 plans for education

• FSAs for predictable healthcare costs

For HCEs, tax planning should be ongoing, not reactive.

Protecting Wealth Through Risk and Estate Planning

Accumulated wealth needs protection.

Insurance Planning

Adequate coverage may include:

• Disability insurance (often overlooked)

• Term life insurance

• Umbrella liability coverage

Estate Planning Essentials

Every high earner should have:

• A will

• Powers of attorney

• Healthcare directives

For larger or more complex estates, trusts may help reduce estate taxes and control asset distribution.

Succession and Equity Planning

If your wealth is tied to business ownership or stock options, planning for separation, disability, or death is critical to protect your family.

Turning Strategy into Action

Financial clarity doesn’t happen by accident. Here’s a practical roadmap:

1. Organize Your Financial InformationCompensation details, investment accounts, tax returns, and benefit elections.

2. Define Clear ObjectivesRetirement timing, lifestyle goals, tax efficiency, legacy planning.

3. Build the Right Advisory Team: A fiduciary financial planner, CPA, and estate attorney working collaboratively.

4. Create an Integrated Financial Plan. Investments, taxes, benefits, and estate planning aligned toward one strategy.

5. Review Annually and Adjust as Life Changes

Final Thoughts

For Highly Compensated Employees, financial planning is not a one-time decision; it’s an ongoing process of refinement. With thoughtful strategy and professional guidance, your income can become a tool for long-term freedom rather than ongoing complexity.

If you’re ready to move beyond piecemeal decisions and create a coordinated plan built around your goals, now is the right time to start.

Your future self will thank you.

To learn more about us, visit our website https://www.mygatewaymoney.com/ or Book a time to meet with me here.