In January 2010, the IRS announced a tax amnesty program under which many inadvertent 409A failures can be corrected with no tax or penalties during 2010. Because of Section 409A’s complexity and increasingly-strict IRS interpretations, many employers are likely to find that one or more of their deferred compensation plans or executive employment agreements have 409A failures that may be eligible for the amnesty program. To help employers identify and correct Section 409A defects like the ones illustrated above, Ivins, Phillips & Barker has developed a comprehensive Section 409A Compliance Review under which we will systematically review all of your (and your subsidiaries’) compensation and fringe benefit programs to identify potential defects and provide advice and assistance regarding the ways in which defects may be corrected under the 2010 amnesty program or other means.
IRS issued Notice 2010-6 sets forth a program for correcting plan document defects under Code Section 409A. Along with Notice 2008-113, which established a correction program for operational defects, the IRS has now instituted a comprehensive formal correction program for Section 409A errors. The notices permit certain errors to be corrected with zero adverse tax consequences under Section 409A, while others may be corrected with less than the full consequences of a Section 409A failure.
Most significantly, transition relief in Notice 2010-6 generally permits the correction of plan document defects without penalty before the end of 2010, as long as any operational failures stemming from such defects are corrected under Notice 2008-113. Because of this (presumably final) offer of transition relief, we recommend that all companies conduct an internal audit of their deferred compensation plans this year. Ivins, Phillips & Barker has developed a three-part Section 409A Compliance Review to guide you through this process. We will review your plan documents and plan administration, help you correct any errors which may have arisen to date, and recommend changes to your plan documentation and administrative procedures to minimize the risk of future Section 409A failures.
Section 409A Failures are Easy to Miss
A Section 409A failure can trigger devastating tax consequences for participants in nonqualified deferred compensation plans, which include SERPs, deferral plans, individual employment agreements, and any other arrangement that provides a legally binding right to compensation which may be paid in a later year. In general, Section 409A provides for immediate taxation of amounts subject to a Section 409A failure, plus an additional 20% tax penalty, plus interest retroactive to the date the affected compensation first became vested.
What makes Section 409A especially frightening is that seemingly innocuous words and deeds can trigger devastating tax consequences.
Under the plan aggregation rules in the Section 409A regulations, a failure with respect to a single deferred compensation plan may “taint” amounts deferred under other deferred compensation plans as well.
Even worse, while employers are generally responsible for Section 409A compliance, the consequences of a Section 409A failure fall principally on employees. It is unclear whether an employee could sue an employer for causing a Section 409A failure, but a Section 409A failure will, at minimum, strain the relationship between a company and the affected employees. Some companies protect their employees by providing a “gross-up” payment for Section 409A failures. Because of the additional taxes triggered by Section 409A, gross-up payments often exceed the value of the underlying deferred compensation.
A Compliance Review Will Pay Dividends Later
The good news is that as noted above, the corrections guidance provides transition relief in 2010. Given the stakes and the IRS’s strict views regarding Section 409A compliance, it is critical for companies to review the administration of their deferred compensation plans and correct any errors before the end of 2010. With no further transition guidance on the horizon, there is every reason to believe that 2010 will be the final opportunity to correct Section 409A failures without triggering draconian tax consequences.
Ivins, Phillips & Barker has developed a three-part Section 409A Compliance Review to help clients identify and correct 409A failures in 2010. Many companies already committed significant resources to the drafting process to meet the 2008 documentary compliance deadline. Accordingly, if we are engaged for all three phases of the Compliance Review, we will conduct Phases I and II of the review for a fixed fee, for any arrangements which have already been reviewed and amended for Section 409A compliance. The fee will be based on the quantity and complexity of the plans involved in the review.
The Ivins 409A Compliance Team
The Ivins employee benefits team is ideally suited to assist in this review. Our team has drafted and reviewed hundreds of deferred compensation plans for our clients, and nearly every member of the Ivins team has significant experience with Section 409A compliance.
Compliance Team Leaders
Additional Team Members
One or more of the following experienced Ivins employee benefits partners will participate in each review project.
Contact
Please feel free to contact Will Sollee at (202) 662-3466 or Jonathan Zimmerman at (202) 662-3464 to discuss additional details about the Ivins, Phillips & Barker Section 409A Compliance Review.