As noted in our October 2007 issue, the Internal Revenue Service issued Notice 2007-86, generally extending until December 31, 2008 the transition period for full operational compliance with the final regulations under Section 409A of the Internal Revenue Code, dealing with certain nonqualified deferred compensation plans.
Under the Notice, employers are generally given until the end of calendar year 2008 to analyze all deferred compensation plans, stock rights, employment offer letters, employment agreements, severance agreements and other arrangements potentially subject to Section 409A, toward the ultimate end of securing formal documentary compliance with the final regulations.
The final regulations, which are effective January 1, 2009, are applicable to contracts, plans or other arrangements constituting "deferred compensation plans." Since any such deferred compensation plans not in compliance by January 1, 2009 are likely to trigger punitively expensive repercussions for employees operating under such plans, it is imperative that employers focus over the remaining months of 2008 on identifying and executing any actions necessary to achieve documentary and operational compliance prior to December 31.
The following is a "laundry list" of action items employers would be well-advised to consider in making sure their deferred compensation arrangements meet the complex requirements of Section 409A:
-
Identify arrangements subject to 409A: Review all nonqualified compensatory arrangements (whether with employees or independent contractors) involving deferred compensation that are or may be subject to Section 409A, including "traditional" nonqualified deferred compensation plans; employment agreements (whether or not in writing), offer letters and severance agreements; discounted stock options and/or SARs; restricted stock units, performance share awards, phantom stock plans and other equity-flavored awards; annual and multi-year bonus and commission plans.
-
Amend any such arrangements to provide documentary compliance: Since December 31, 2008 is the "drop-dead" date for documentary compliance with Section 409A (which date is highly unlikely to be extended again), and since ensuring such compliance may involve time-consuming processes with long lead times (e.g., securing compensation committee adoption of necessary amendments), it is imperative that the amendment process begin substantially in advance of that date. Particular attention should be paid to arrangements involving the following: "tax gross-up" payments to employees; provisions for deferred payments with nonspecific payment dates.
-
Attend to operational compliance issues: Employers should review plans covered by Section 409A to insure that even compliant plans are operated in strict conformity to their operational terms since, even if plan documents are in order, an operational failure will trigger application of Section 409A.
-
Consider revising payment elections: Transition rules permit changes to previously made payment elections (i.e., elections specifying the dates or events triggering payments of previously deferred compensation) without penalty, provided such changes are effected prior to December 31, 2008. After that date, any such "subsequent elections" will be exceedingly difficult and materially less favorable to employees seeking to change a prior election.
