In re Worldcom, Inc. 2007 WL 896823 (S.D.N.Y. 2007)

Background. A "rabbi trust" is a retirement plan used by some churches and secular employers to set aside funds for an employee's retirement. Rabbi trusts typically are created for persons who are approaching retirement. One of the advantages of a rabbi trust is that the annual contribution limits that apply to tax-sheltered annuities and qualified pension plans do not apply. This allows employers to set aside more substantial amounts for an employee's retirement.

The IRS has ruled that amounts set aside by employers in a rabbi trust on behalf of an employee are not currently taxable to the employee so long as certain requirements are met. One requirement is that the trust is subject to a "substantial risk of forfeiture." A "substantial risk of forfeiture" includes making the funds set aside in a rabbi trust subject to the employer's general creditors. A federal court in New York addressed this aspect of rabbi trusts in a recent case.