FICA refund opportunities under sec. 3121(v) proposed regulations.

• Author: Seelig, Steven A.
• Position: Federal Insurance Contributions Act

The IRS recently issued proposed regulations under Sec. 312(v)(2) outlining the FICA withholding rules for nonqualified deferred compensation plans. The employer-paid portion of the FICA tax consists of two parts: (1) the Old Age, Survivors' and Disability Insurance (OASDI) tax on an employee's wages up to the annual limitation (for 1996, 6.2% of wages up to $62,700) and (2) the Medicare or Hospital Insurance (HI) tax of 1.45% on all wages. The proposed regulations provide HI tax refund opportunities for employers that maintain nonqualified deferred compensation plans for their employees or that have paid employee bonuses within 2 1/2 months after the close of their tax year.

Nonqualified Defined

Contribution Plans

In general, Sec. 3121(v)(2) provides that FICA withholding is required on amounts deferred under a nonqualified deferred compensation plan on the later of when services are performed or when there is no substantial risk of forfeiture of the rights to such amount. When applied to a defined contribution deferred compensation plan (i.e., one to which contributions are made to a participant's account each year), determining the amount to be withheld is relatively simple. In addition, the Code and proposed regulations provide that, once FICA is withheld on amounts contributed under the plan, earnings on those contributions generally are not subject to FICA either when credited or paid (provided the rate at which those earnings are credited is reasonable). Note, however, that the proposed regulations provide that if the interest rate used is not one that charts a specific investment, or is otherwise determined by the Service to be unreasonable, additional FICA will be imposed on the interest credited in excess of the applicable Federal rate in the year in which earned.

Defined Benefit SERPs

For defined benefit deferred compensation plans, such as a defined benefit supplemental executive retirement plan (DB SERP) (i.e., plans that pay a benefit under a preexisting formula (e.g., $1,000 per month after retirement)), the amount of FICA that must be withheld in any year becomes more difficult to determine. Consider the following example that illustrates the opportunities for refund on FICA taxes paid.

Example 1: A DB SERP provides for executive E to receive a benefit beginning at age 65, in the form of a life annuity equal to 50% of final average pay. Assume that no substantial risk of forfeiture exists as to E's receiving that benefit, as...