Nonqualified Deferred Compensation Section 409A Compliance

David Fritz – Managing Partner

A Chief Counsel Advice Memorandum of the IRS advises that a pre-vesting plan correction will not “save” a nonqualified deferral plan’s failure to comply with Section 409A of the Internal Revenue Code if benefits vest before the last day of the tax year in which the correction was made.

Plan sponsors should be aware that failure to structure nonqualified compensation plans to comply with requirements of Section 409A may result in substantial penalties, and that corrections may not be effective to prevent penalties in the years benefits vest.

Executive Benefits Network thought it would be helpful to provide eight key questions to determine your Section 409A plan compliance. As always, we encourage you to consult with the legal counsel that advised in your plan document. This list will help get you started to determine if a conversation is warranted.

1. Which compensation arrangements are impacted by Section 409A?
2. Are there exceptions to Section 409A for certain arrangements, such as stock appreciation rights?
3. Must the nonqualified deferred compensation arrangement be in writing? The answer is always yes.
4. How does Section 409A affect the timing of an acceleration to defer compensation?
5. How does Section 409A restrict the timing of distributions of deferred compensation?
6. Can the time originally selected for payment of deferred compensation be changed?
7. Does Section 409A require compliance only at the time a nonqualified deferred compensation arrangement is established? The answer is no.
8. What are the penalties imposed for failure to comply with Section 409A?

In order to help you navigate this important benefit area, Executive Benefits Network put a Section 409A general compliance check list together.

The Section 409A a general compliance checklist includes the following:

1. Nonqualified deferred compensation arrangement plan is:
a. Documented in writing
b. Limits distribution to the following circumstances:
i. Upon the individual’s separation from service with the entity maintaining the nonqualified deferred compensation plan
ii. Upon the individual’s death
iii. Upon the individual’s disability
iv. Upon a change of control of the entity liable for the payment of the deferred compensation
v. Upon the individuals experiencing an unforeseeable financial emergency
vi. Or as of a specified rate or pursuant to a specified schedule
c. Prevents the participant from changing the timing and form of payment originally selected (subject to limited exceptions)
2. Plan participant has provided conforming deferral elections timely (before the year in which the relevant service was performed), which:
a. Specify amount of compensation to be deferred
b. Establish the time in form of payment consistent with Section 409A restrictions

As always, it is important to review the programs to make sure they are in compliance to review the penalties associated with non-compliance. A member of the Executive Benefits Network team can help review your program and give you an initial diagnosis.