Identifying specified employees under Sec. 409A.

• Author: Adkins, G. Edgar, Jr.

Due to the new nonqualified deferred compensation (NQDC) rules under Sec. 409A, corporate executives may be surprised if they expect to receive distributions from their NQDC plans immediately after they terminate employment. When Congress enacted Sec. 409A, it placed strict rules on NQDC plans that must be followed in order for employees to avoid harsh consequences (i.e., immediate taxation, a 20% penalty, and interest). One of these rules is typically referred to as "the six-month delay rule." This rule generally provides that NQDC plan distributions on account of a separation from service to a "specified employee" (as defined in detail below) may not be made before the date that is six months after the date the specified employee separates from service (Regs. Sec. 1.409A-3(i)(2)). This rule applies only to corporations with stock that is publicly traded on an established securities market (including foreign securities markets).

Employers must understand how to determine whether an employee is a specified employee so that the plan is operated in accordance with Sec. 409A. This can be accomplished using a three-step process, as discussed below.

Step 1: Select the Specified Employee Identification Date

The first step an employer should take to identify its specified employees is to select the specified employee identification date (identification date). In general, this is the only date during the year on which the specified employees will be identified. Under Regs. Sec. 1.409A1(i)(3), the default identification date is December 31. However, an employer may designate an alternative identification date. The same identification date must be used for all of the employer's NQDC plans. The identification date may be changed in the future, but the change cannot be effective until at least 12 months after the decision to change the date has been made.

Step 2: Select the Specified Employee Effective Date

The second step an employer should take is to select the specified employee effective date (effective date). This is the date that the specified employees who have been identified under step 1 will become specified employees for purposes of applying the six-month delay rule. Under Kegs. Sec. 1.409A- 1(i) (4), the default effective date is the first day of the fourth month following the identification date. Thus, for an employer who chooses to use the default identification date of December 31, the default effective date is the following April 1. The...