A Random Walk Down The Final Section 409A Regulations

Reprinted from Benefits Law Journal Autumn 2007, Volume 20, Number 3, pages 1-4, with permission from Aspen Publishers, Inc., Wolters Kluwer Law & Business, New York, NY, 1-800-638-8437, www.aspenpublishers.com.

Slogging through the nearly 400 pages of final Section 409A regulations is like walking away from a horrible auto accident, thinking "it could have been worse." It certainly is an improvement over the October 2005 proposed regulations. On the positive side, a lot of ambiguity was removed and some of the more unworkable rules, such as a lack of a good reason standard for a severance plan or the definition of service provider stock for private companies, are cleaned up. The new rules also create a permanent demand for compensation and benefits lawyers because every bonus program, employment contract, stock option plan, severance arrangement, and just about every other form of pay or perk can fall within the long reach of IRC Section 409A. Still, I can't help but notice that the car was totaled. In this issue of Benefits Law Journal , you'll find a pithy and instructive discussion of IRC Section 409A's separation pay rules by Peter Marathas and a comprehensive overview of the entire regulations by Messrs. Pett, Stevens, and MacKay. I would like to point out some of ways that the Treasury and IRS made a bad tax law worse.

Overreacting to Enron executives' shoveling their deferred compensation into their pockets as the company cratered, Congress not only limited the mechanisms for funding and paying deferred compensation, but added several layers of statutory rules to the existing, largely judicial, constructive receipt/economic benefit doctrines. (Since executives are an easy target, Congress overlooked that encouraging executives to defer compensation actually is a long-term benefit for the National Treasury, as a large portion of the taxes on the deferrals will come due just as retiring baby boomers strain Social Security and Medicare entitlements.)

With the final regulations in hand and a looming January 1st compliance deadline, companies and executives are finding the new rules yet another annoying technical hoop to jump through. But the real trouble will come down the road, when IRC Section 409A's severe penalties for noncompliance begin to hit: a 20 percent excise tax plus interest on the tax that would have been paid from the time the compensation was vested. Added to the "regular" tax on the accelerated income, the combined tax...