non-qualified deferred compensation plans
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Non-Qualified Deferred Compensation
PLANSpresented by Tom SigmundDecember 18, 2014
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“undermine integrity/reputation of legal professionals”
are we talking about?WHAT
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Deferred Compensation Arrangement
An unsecured, unfunded promise to pay to a select group of management or highly
compensated employees
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Comes in All Shapes + Sizes
Defined Contribution Plan
Defined Benefit
Plan
Equity-Based Plan
SARs
Stock Options
Phantom Stock Plans
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“undermine integrity/reputation of legal professionals”
does it mean to be non-qualified?
WHAT
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Not Subject to Rigid IRC Rules
Vesting requirements
Participation requirements
Eligibility requirements
Coverage requirements
Minimum funding
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Not Granted Favorable Tax Treatment
Deduction for contribution
Tax deferral to participant until paid
Tax-free growth
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“undermine integrity/reputation of legal professionals”
do we use it + why?WHEN
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Want to compensate key employee(s) in a manner that would be discriminatory if a
qualified plan or which exceeds the benefits that could be provided in a qualified plan.
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Incentivize Key Employees
1. Golden Handcuffs
2. Work with a long-term goal to make company more profitable
3. Work with an owner’s mentality
4. Keep those employees happy long term
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Buyout
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“undermine integrity/reputation of legal professionals”
is the objective tax-wise +otherwise of these plans?
WHAT
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Objective
Avoid complexity of Internal Revenue Code
Custom design plan for each employee in question
Defer taxation of benefits to employee until paid
Avoid ERISA requirements
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Avoid ERISA Requirements
Trust/funding
Minimum participation
Vesting
Extensive report/disclosure requirements
Fiduciary obligations
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“undermine integrity/reputation of legal professionals”
Informal
FUNDING
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Use of life insurance
Rabbi trust
Creditor Claims
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“undermine integrity/reputation of legal professionals”
IRC§409A
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Legislation enacted in response to Enron debacle
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409A Requirements (if not exempt)
Timing of deferrals by employee
Designation of time and form of payment
Permissible payment events
Extension of deferral
Separation pay
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Permissible Payment Events
Disability
Death
Change of Control
Unforeseeable emergency
Separation from service
Fixed time
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Notable Exceptions
Equity compensation
Short-term deferrals
Separation pay
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PENALTIESfor Non-Compliance
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“undermine integrity/reputation of legal professionals”
Social Security
TAXES
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Social Security Taxes
Subject to FICA when no longer subject to substantial risk of forfeiture (as opposed to when paid)
1. Taxable wage base
2. Medicare portion
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RecurringProblems +Complexity
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Structuring business-driven compensation arrangements that have no tax motivation.
Example: Executive’s base salary would be defined and paid at the earlier of a specified date or the Company’s closing of a
capital raise in excess of a specified dollar amount.
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Severance Arrangements1. Non-compliance tends to occur when the severance
arrangement isn’t designed to fall within the exception of Section 409A.
2. The most common problem is the failure to include the 6-month delay rule and the impact of release delivery requirements that would impermissibly allow an executive to potentially affect the year of payment.
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Restricted Stock Unit1. Vesting when executive reaches retirement age but at the time of
grant the executive has already reached retirement age or will at a point early enough in the award period that the restricted stock units don’t qualify under the short-term deferral rules.
2. When Restricted Stock Unit does not meet short-term deferral exception, failure to include the 6-month delay provision or acceleration in the event of a change of control that doesn’t comply with the definition found in 409A.
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Due diligence reviews of target company compensation and benefit arrangements.
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In merger and acquisition, target executive wants to be paid out under his deferred compensation agreement that
requires severance from service but the acquiring corporation wants to retain the executive. Often the change
of control/termination rule needs to be relied on.
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Section 409 basically adds additional costs and time to transactions that it applies to without accomplishing much, if anything, of significance. Almost no one ends up paying the excise tax and most transactions occur
almost exactly as before.
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Modifications to the terms of stock options and whether or not such a modification is treated as a
modification under 409A which could cause a problem if the stock value has gone up since its grant.
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Practitioners that spend large portions of their day thinking about 409A frequently struggle to come to conclusions and then often do not agree with each other when they do so. Sometimes the best that can be done is to identify risks,
positions, stress points and uncertainty.
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The rules for payment at a specified time or a fixed schedule, require payment on date or dates that are
nondiscretionary and objectively determined at the time the amount is deferred. Therefore, they cannot generally be
based on the occurrence of an event.
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There has been little change in the prevalence of non-qualified deferred compensation plans
and the popularity has been steady.
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Anti-acceleration rules put limitations on de-risking in the non-qualified deferred compensation arena (as opposed to the
qualified plan arena).
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Anti-acceleration rules put limitations on de-risking in the non-qualified deferred compensation arena (as opposed to the
qualified plan arena).
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The requirements of 409A can cause impediments to succession
planning during the transition period.
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409A Can Impact Reimbursement Arrangements1. If a relocation package is available over multiple years,
the amounts available in a later year cannot depend on what was spent, reimbursed or incurred in an earlier year.
2. The payment of reimbursements cannot depend on a payment trigger that is not permissible under 409A (e.g., when the current residence is sold).
3. Acceleration or further deferral of payments must comply with 409A unless an exception applies.
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RECENTDevelopments
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On February 25, 2014 the IRS issued final regulations clarifying the meaning of “substantial risk of forfeiture” under IRC §83. In summary, the IRS stated that “further,
Treasury and the IRS believe that these regulations should not be modified to state that an involuntary
separation from service without cause may qualify as a substantial risk of forfeiture under §83.”
RECENT Developments
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IRS Field Attorney Advice (FAA 20134301F) on employee bonus deductions.
If bonus plan states that the employer retains the right to eliminate or modify the bonuses at any time prior to
payment, the all events test is not met.
RECENT Developments
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U.S. Department of Treasury, Semi-Annual Regulatory Agenda Release (5/23/14). Among items scheduled for release are:
1. A final rule on the definition of “highly compensated employee.”
2. A final rule on further guidance on the application of §409A to non-qualified deferred compensation plans.
3. Combining correction programs and expanding violations covered.
RECENT Developments
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IRS Initiates Limited Scope Audit of Non-Qualified Deferred Compensation Plan Compliance with §409A.
1. IRS has stated it will send information document requests to a limited number of companies (fewer than 50) from a group of large employers that have been previously selected for an employment tax audits.
2. The IRS’s intent is to refine audit techniques and test compliance in three areas.
Initial elections to defer compensation;
Subsequent elections to re-defer compensation; and
Plan distributions and compliance with §409A, including the requirement that distributions to “specified employees” of public companies be delayed for at least 6 months.
RECENT Developments
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Proposed Legislation to tax deferred compensation when no longer subject to a
“substantial risk of forfeiture.”
RECENT Developments
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Thank You!
Tom Sigmund, DirectorKegler Brown Hill + Rittertsigmund@keglerbrown.comkeglerbrown.com/sigmund614.462.5462
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