Employment Law Basics: Deferred Compensation and IRS Section 409A

Employment laws can be confusing and downright scary.

They don’t have to be. As a public service, from now until my special Halloween webinar Answers to the World’s Scariest Employment Law Questions, I’ll be tackling each major law one by one to give you what you REALLY need to know. By the end, you’ll have handy one-page cheat sheets for each and every law and your terror level will be reduced to zero.

Today’s Topic: Section 409A (deferred compensation).

Here is basically everything you need to know about IRS Section 409A in one handy post.

SECTION 409A CHEAT SHEET

What does Section 409A cover?

Section 409A of the Internal Revenue Code regulates any employment plan that provides for the “deferral of compensation.”

When does a plan provide for “deferral of compensation?”

When a participant has a legally binding right to compensation that is or may be payable in a later tax year.

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What kind of deferrals are there?

  • Elective: made at the election of the participant through salary reduction.
  • Non-elective: contributions made by the employer without any salary reduction.

What are the requirements for a 409A-compliant plan?

  • Must be in writing.
  • Must provide that deferred compensation may not be distributed to a participant earlier than:
    • Separation from employment;
    • Disability;
    • Death;
    • A time specified under the plan at the date of the deferral;
    • A change in the ownership or effective control of the business, OR;
    • The occurrence of an unforeseeable emergency.
  • In the case of any “specified employee” (generally the top 50 paid officers), distributors on account of service may not be made earlier than six (6) months post-separation.
  • In general, compensation for services performed in a taxable year may be deferred at a participant’s election only if the election to defer is made no later than the close of the preceding taxable year.
  • If a participant can make a subsequent election to delay payment.
  • The election may not take effect until at least 12 months after the date of election.
  • If the election relates to a payment that is not made due to disability, death or unforeseen emergency, the payment must be deferred for a period of not less than five (5) years from the date the payment would have otherwise been made.
  • Any election related to a payment as of a specified time or pursuant to a fixed schedule may not be made less than 12 months prior to the date of the first scheduled payment.

Top Section 409A tips

  • Section 409A applies to any agreement that provides for the deferral of compensation, even if it is between the employer and only one participant.
  • Acceleration of the time or schedule of any payment under the plan is not permitted unless specifically authorized by federal regulations.
  • Noncompliance has no direct adverse effect on employers; however, participants may be subject to tax penalties.

Stay tuned for more. Monday we’ll de-scare-ify Title VII.

This was originally published on Manpower Group’s Employment Blawg.

Mark Toth has served as Manpower Group North America's Chief Legal Officer since 2000. He also serves on the company’s Global Leadership Team, Global Legal Lead Team and North American Lead Team. Mark is recognized as an expert on legal issues affecting the U.S. workplace and is frequently quoted in media from The Wall Street Journal to 60 Minutes. He is also a past Chair of the American Staffing Association and is a certified Senior Professional in Human Resources. Contact him at mark.toth@manpowergroup.com.

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