Employees and consultants who participate in deferred compensation plans will be subject to accelerated income taxes as well as interest and a 20% penalty tax unless by the end of this year the plans are amended to include terms required by Section 409A of the Internal Revenue Code. The rules apply to arrangements maintained by both taxable and tax-exempt employers.
Any arrangement with one or more employees, consultants, directors or other independent contractors that calls for payment of compensation after the year in which services are rendered could be subject to Section 409A. Examples of such plans are employment and severance agreements, long-term bonus plans, equity incentive plans (both stock options and stock appreciation rights), supplemental retirement plans and non-qualified elective deferral plans.
Certain types of arrangements are exempt under Section 409A. For example, exemptions are allowed for certain “short-term” deferrals, certain “appreciation-only” equity incentive benefits and a limited amount of severance pay for “involuntary” terminations.
After 2008, unless a non-exempt deferred compensation arrangement is in compliance with Section 409A—both in its written terms and its operation—the new rules require the employee or consultant to pay income taxes plus the 20% penalty on all deferred amounts as they vest even though the employer established and operates the plan.
What must be done: Each company must identify and review all deferred compensation arrangements, amend any plans or agreements that are not in compliance with Section 409A, and discuss the changes with the employees or consultants who are affected. This process can take several weeks and must begin immediately in order to meet the December 31, 2008 deadline.
If you have questions or if we can assist you in complying with Section 409A, please contact:
Wayne H. Miller
Kenneth Y. Liu
Pursuant to IRS Circular 230, please be advised that, this communication is not intended to be, was not written to be and cannot be used by any taxpayer for the purpose of (i) avoiding penalties under U.S. federal tax law or (ii) promoting, marketing or recommending to another taxpayer any transaction or matter addressed herein.
This client advisory should not be construed as legal advice or legal opinion on any specific facts or circumstances. The contents are intended for general informational purposes only, and you are urged to consult your own lawyer concerning your situation and any specific legal questions you may have.
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