409A Compliance Time is Upon Us
I have been away on vacation and when I returned, I had an opportunity to discuss IRS Code Section 409A compliance with one of my partners. His concerns over the looming December 31, 2008 compliance deadline prompted me to revisit this topic a little bit.
First, let's recall what 409A is intended to do. It is designed to provide a framework for making taxable deferred or executive compensation at the time it loses it forfeitability. Unless certain requirements are satisfied, amounts deferred under a nonqualified deferred compensation plan (as defined in the regulations) currently are includible in gross income unless such amounts are subject to a substantial risk of forfeiture. In addition, such deferred amounts are subject to an additional 20 percent federal income tax, interest, and penalties.
Second, let's recall some of the things that 409A applies to: Traditional nonqualified deferred compensation plans, Employment agreements, Reimbursement arrangements, Severance arrangements, Bonus/incentive plans, Stock options, Equity incentive plans and award agreements, Post-retirement benefits, Tax equalization agreements, Phantom stock arrangements, Restricted stock units, Change in control agreements, Split-dollar life insurance arrangements, Supplemental executive retirement plans ("SERPs"), Excess benefit plans, Section 457(f ) plans.
Third, what needs to be done before December 31, 2008. All of the following should be completed: 1. Identify all arrangements, agreements or plans (including insurance policies) that may constitute deferred compensation. A "deferred" compensation arrangement will generally be one under which an employee or other service provider has a legally binding right during a taxable year to receive compensation that is or may be payable in a later taxable year. This includes arrangements entered into before January 1, 2005 and still in existence, such an employment agreement.
2. Review each arrangement and prepare amendments or addendums as necessary. For arrangements not in writing, written documents have to be created to comply with Section 409A.
3. If necessary, obtain approval from the board of directors or the compensation committee for new arrangements or amendments to existing arrangements.
4. Review and revise employee communications, enrollment forms, election forms, etc. so that they comply with Section 409A and are consistent with the corresponding arrangement.
5. Communicate to employees, officers, directors, or independent contractors, as applicable, any changes in the terms of the arrangements that have been or need to be made. Employers may need to obtain the consent of employees, officers, directors, or independent contractors to modify existing arrangements. In some cases, negotiations may be necessary.
6. Coordinate with HR and payroll departments to make sure the arrangements are being operated in compliance with Section 409A and in accordance with their terms and that appropriate payroll codes and processes are in place for reporting and withholding amounts subject to Section 409A, if applicable.
All of these steps should be done in conjunction with legal counsel or other tax professionals to make sure compliance is properly achieved. Since it will probably take a significant time to complete these steps, employers would be well served to start preparing now for the December 31, 2008 deadline.
