Scarinci Hollenbeck, LLC
The Firm
201-896-4100 info@sh-law.comFirm Insights
IRS Proposes New Tax Status Regulations on Non-qualified Deferred Compensation Plans
Author: Scarinci Hollenbeck, LLC
Date: August 25, 2016
Key Contacts
Back
Recently, the IRS proposed new tax status regulations related to the Section 457(f) non-qualified deferred compensation plans offered by tax exempt employers.
Proposed regulations
The goal of the proposal was to clearly define which deferred and actual amounts the IRS will tax as income following the lapse of the risk of forfeiture. A Spencer Fane LLP report found a portion of the proposed rules are similar to the existing language under 409A, but some differences between the overlap of Sections 457(f) and 409A will be explained. Most notably, the substantial risk of forfeiture terms, which are different in 457(f) and 409A, are unified in the new rules.
Since the IRS’ public hearing on the proposal is scheduled for Oct. 18, the expectation is that the regulations will not be finalized until sometime in 2017, which would most likely mean the implementation date will be 2018.
Substantial risk of forfeiture language has changed
While deferrals of compensation remain the same in the proposal, the language under the substantial risk of forfeiture is changed. Specifically, Spencer Fane LLP research found a 457(f) non-qualified deferred compensation plan participant will need to be aware that his entitlement to the deferred amount is contingent on three new options.
The first of these newly defined amounts are contingent on substantial future service performances. Another option participants have is if the possibility of forfeiting the plan is a substantial hit, they will be allowed to keep the compensation in the plan. A final alternative is participants can reach an agreement to not compete with their employers, which enables participants to maintain the tax advantages of the deferred amounts.
On one hand, this noncompete clause is an agreement between the employer and the plan participant for the employee not to join a competing organization. But the employee can also reach a noncompete agreement with an employer if he has bona fide interest in keeping the tax-advantaged status of his plan while engaging in activities with a competitor.
Overall, the clarification in this language was designed to outline the types of elective deferrals that may be treated as substantial risk of forfeiture. Specifically, the definition of a substantial risk of forfeiture is any amount that exceeds 25 percent more than the amount the employee would lose if he had not elected to defer.
Other notable changes
Among the major changes is that short-term deferrals and bona fide severance pay plans will now be tax exempt. This is significant because while the language is similar for the two terms between 457(f) and 409A, they are not identical.
Deferred amounts will also keep their tax exempt statuses for involuntary employment termination. Previously, there were slight differences in the language between the two tax codes for voluntary and involuntary terminations.
The regulations will need more clarification
The IRS intended for the proposal to clarify the terms of incentive compensation plans, employment agreements and bonus arrangements that employers reach with employees. As compensation deferrals for tax purposes is such an important issue, clearer definitions of activities that could potentially risk forfeiture are needed. This is particularly true for language differences that still exist between 457(f) and 409A. Until the proposal is finalized, though, employers and employees have the ability to begin to adjust to the new regulations.
In the meantime, employers will have the ability to submit comments and questions to the IRS on the new proposal until Sept. 20.
- Practices: Tax, Trusts & Estates
No Aspect of the advertisement has been approved by the Supreme Court. Results may vary depending on your particular facts and legal circumstances.
Related Posts
See all
Does Your Homeowners Insurance Provide Adequate Coverage?
Your home is likely your greatest asset, which is why it is so important to adequately protect it. Homeowners insurance protects you from the financial costs of unforeseen losses, such as theft, fire, and natural disasters, by helping you rebuild and replace possessions that were lost While the definition of “adequate” coverage depends upon a […]
Author: Jesse M. Dimitro
Understanding the Importance of a Non-Contingent Offer
Making a non-contingent offer can dramatically increase your chances of securing a real estate transaction, particularly in competitive markets like New York City. However, buyers should understand that waiving contingencies, including those related to financing, or appraisals, also comes with significant risks. Determining your best strategy requires careful analysis of the property, the market, and […]
Author: Jesse M. Dimitro
Fred D. Zemel Appointed Chair of Strategic Planning at Scarinci & Hollenbeck, LLC
Business Transactional Attorney Zemel to Spearhead Strategic Initiatives for Continued Growth and Innovation Little Falls, NJ – February 21, 2025 – Scarinci & Hollenbeck, LLC is pleased to announce that Partner Fred D. Zemel has been named Chair of the firm’s Strategic Planning Committee. In this role, Mr. Zemel will lead the committee in identifying, […]
Author: Scarinci Hollenbeck, LLC
Novation Agreement Process: Step-by-Step Guide for Businesses
Big changes sometimes occur during the life cycle of a contract. Cancelling a contract outright can be bad for your reputation and your bottom line. Businesses need to know how to best address a change in circumstances, while also protecting their legal rights. One option is to transfer the “benefits and the burdens” of a […]
Author: Dan Brecher
What Is a Trade Secret? Key Elements and Legal Protections Explained
What is a trade secret and why you you protect them? Technology has made trade secret theft even easier and more prevalent. In fact, businesses lose billions of dollars every year due to trade secret theft committed by employees, competitors, and even foreign governments. But what is a trade secret? And how do you protect […]
Author: Ronald S. Bienstock
What Is Title Insurance? Safeguarding Against Title Defects
If you are considering the purchase of a property, you may wonder — what is title insurance, do I need it, and why do I need it? Even seasoned property owners may question if the added expense and extra paperwork is really necessary, especially considering that people and entities insured by title insurance make fewer […]
Author: Patrick T. Conlon
No Aspect of the advertisement has been approved by the Supreme Court. Results may vary depending on your particular facts and legal circumstances.
Sign up to get the latest from our attorneys!
Explore What Matters Most to You.
Consider subscribing to our Firm Insights mailing list by clicking the button below so you can keep up to date with the firm`s latest articles covering various legal topics.
Stay informed and inspired with the latest updates, insights, and events from Scarinci Hollenbeck. Our resource library provides valuable content across a range of categories to keep you connected and ahead of the curve.
IRS Proposes New Tax Status Regulations on Non-qualified Deferred Compensation Plans
Author: Scarinci Hollenbeck, LLC
Recently, the IRS proposed new tax status regulations related to the Section 457(f) non-qualified deferred compensation plans offered by tax exempt employers.
Proposed regulations
The goal of the proposal was to clearly define which deferred and actual amounts the IRS will tax as income following the lapse of the risk of forfeiture. A Spencer Fane LLP report found a portion of the proposed rules are similar to the existing language under 409A, but some differences between the overlap of Sections 457(f) and 409A will be explained. Most notably, the substantial risk of forfeiture terms, which are different in 457(f) and 409A, are unified in the new rules.
Since the IRS’ public hearing on the proposal is scheduled for Oct. 18, the expectation is that the regulations will not be finalized until sometime in 2017, which would most likely mean the implementation date will be 2018.
Substantial risk of forfeiture language has changed
While deferrals of compensation remain the same in the proposal, the language under the substantial risk of forfeiture is changed. Specifically, Spencer Fane LLP research found a 457(f) non-qualified deferred compensation plan participant will need to be aware that his entitlement to the deferred amount is contingent on three new options.
The first of these newly defined amounts are contingent on substantial future service performances. Another option participants have is if the possibility of forfeiting the plan is a substantial hit, they will be allowed to keep the compensation in the plan. A final alternative is participants can reach an agreement to not compete with their employers, which enables participants to maintain the tax advantages of the deferred amounts.
On one hand, this noncompete clause is an agreement between the employer and the plan participant for the employee not to join a competing organization. But the employee can also reach a noncompete agreement with an employer if he has bona fide interest in keeping the tax-advantaged status of his plan while engaging in activities with a competitor.
Overall, the clarification in this language was designed to outline the types of elective deferrals that may be treated as substantial risk of forfeiture. Specifically, the definition of a substantial risk of forfeiture is any amount that exceeds 25 percent more than the amount the employee would lose if he had not elected to defer.
Other notable changes
Among the major changes is that short-term deferrals and bona fide severance pay plans will now be tax exempt. This is significant because while the language is similar for the two terms between 457(f) and 409A, they are not identical.
Deferred amounts will also keep their tax exempt statuses for involuntary employment termination. Previously, there were slight differences in the language between the two tax codes for voluntary and involuntary terminations.
The regulations will need more clarification
The IRS intended for the proposal to clarify the terms of incentive compensation plans, employment agreements and bonus arrangements that employers reach with employees. As compensation deferrals for tax purposes is such an important issue, clearer definitions of activities that could potentially risk forfeiture are needed. This is particularly true for language differences that still exist between 457(f) and 409A. Until the proposal is finalized, though, employers and employees have the ability to begin to adjust to the new regulations.
In the meantime, employers will have the ability to submit comments and questions to the IRS on the new proposal until Sept. 20.