Sec. 409A provides election, distribution, and funding requirements with respect to nonqualified deferred compensation (NQDC) arrangements. If an NQDC arrangement fails to satisfy these requirements, amounts deferred under the plan during the current and all preceding tax years are includible in gross income to the extent not subject to substantial risk of forfeiture and not previously included in income. The amount included in income is subject to a 20% additional income tax and potentially a premium interest tax. This item provides an update on Sec. 409A guidance and discusses a recent case that addresses the valuation of payments that are subject to the Sec. 409A six-month delay on distribution of payments to specified individuals.
Changes to the Correction Programs
The IRS issued Notice 2010-80 on November 30, 2010, which modified certain provisions of the Sec. 409A correction programs provided under Notices 2010-6 and 2008-113.
Notice 2008-113 provides a correction program for certain Sec. 409A operational failures that are corrected during the same tax year as the failure, failures that are corrected in the tax year immediately following the tax year in which the failure occurred, and failures that are corrected by the end of the second tax year following the year in which the failure occurred. Taxpayers may rely on Notice 2008-113 for tax years beginning on or after January 1, 2009, and for tax years beginning before that date.
The IRS issued Notice 2010-6 on January 5, 2010. That notice provides methods for taxpayers to voluntarily correct certain types of failures to comply with the document requirements of Sec. 409A. This correction program is intended to encourage taxpayers to review the governing documents of their NQDC arrangements for Sec. 409A document failures. In some cases, plans may be corrected without service providers' having to include amounts in income under Sec. 409A, while in other cases as much as 50% of the amount deferred under the plan must be included in income, subject to the 20% additional income tax rate (although nor the additional premium interest tax). Correction under the notice isolates the document failure to the year of correction so that the document failure will not taint prior years. Taxpayers may rely on Notice 2010-6 for tax years beginning on or after January 1, 2009. Notice 2010-6 also made certain modifications to Notice 2008-113. These modifications are effective for service provider tax years beginning on or after January 1, 2010, but may be relied upon for service provider tax years beginning before that date.
Notices 2010-6 and 2008-113 apply only to inadvertent and unintentional failures to comply with Sec. 409A document and operational requirements. Taxpayers taking advantage of the programs must satisfy eligibility and notice requirements.
Notice 2010-80 provides for the following changes to the document and operational correction programs:
Linked plans and stock rights: Under Notice 2010-6, relief under the document correction program was not available to certain linked plans and stock rights. Linked plans are generally defined as NQDC plans under which the amount deferred is determined based on a formula under a qualified plan, and the amount payable under the nonqualified plan is offset by some or all of the benefits under a qualified plan. Linked plans that were not eligible for correction under the document correction program were plans that had document failures due to the amount deferred under the plan being determined by (or the time or form of payment being affected by) the amount deferred under (or the payment provisions of) one or more other NQDC plans or one or more qualified plans. Notice 2010-80 expanded eligibility for the document correction program to linked plans that provide that the amount paid under one plan is affected by the amount paid under the other plan, provided the time and form of payment under the first plan are not affected by the amount deferred under, or the payment provisions of, the other plan.
Stock rights that were intended to satisfy the stock right exception under Sec. 409A but that were granted with an exercise price less than fair market value on the date of grant are eligible for correction as an operational failure under Notice 2008-113, but no stock rights were eligible for relief under Notice 2010-6. Notice 2010-80 expanded eligibility for the document correction program to stock rights that are subject to Sec. 409A, meaning...