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NQDC for closely held corporation


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I'm covered up with EPCRS submissions among other things, and I received a quick email from a tax colleague.

Can a closely held corporation (owned 51% by wife, 49% by husband) put in place a NQDC plan to benefit themselves? They are the sole directors and officers. They are both employees of the corporation. They are also the sole owners, directors and officers of other related corporations that employ between 100 and 200 employees.

Is there an issue of not having an independent board voting to put into place a NQDC?

Many thanks -

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I don't know off the top of anything that would prevent it. As a greater than 2% shareholder of the S corp, the H & W are treated for many purposes as "partners" and not employees. However, the S corp would have payroll/Form W-2 procedures for compensating personal services, even those rendered by a more than 2% shareholder-employee.

I think not having an independent board would belie an assertion later of bona fide dispute (an exception under the 409A regs), but generally both the service provider and service recipient must have very limited latitude when it comes to the timing of payout after the initial election to defer is set.

I'll be interested to hear what Everett Moreland, Steelerfan and others have to say about this scenario.

Because the H & W 'own' the deduction flowing through from the S corporation for paying employee compensation and would have taxable income of a corresponding amount when the compensation becomes taxable, from an income tax perspective it looks like a wash as to having it later (deferred) rather than contemporaneous with when earned.

I'm wondering if the angle is the FICA, as is so often the case with an S corp. For example, if the compensation is $75,000 a year for the W. If paid contemporaneously for 2009 and 2010, all $150,000 is subject to FICA at the 15.3% rate. On the other hand, if the 2009 earnings were all deferred into 2010 and 2010's earnings paid in 2010, there would be no FICA in 2009, and for 2010, the first $102,000 (as COLA'd from 2008) would be subject to FICA at 15.3% but the rest of the $150,000 total paid in 2010 would be subject to FICA at the lower 2.9% rate.

John Simmons

johnsimmonslaw@gmail.com

Note to Readers: For you, I'm a stranger posting on a bulletin board. Posts here should not be given the same weight as personalized advice from a professional who knows or can learn all the facts of your situation.

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To JLEA: The answer is of course, they can have a NQDC plan. The real question is "why?" when contributions to such a plan are not tax-deductible.

To JSimmons: I give. Why do you assume that because they are a closely-held corporation that they are also an S corporation? Your one-year deferral example is not likely to comply with IRC Section 409A and is not how NQDC plans operate.

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Hey, VebaGuru,

I assumed that its an S corp because closely held (H & W) with 100-200 employees. In my experience, a company that is so closely held and has that many employees is nearly always an S corporation to avoid the ravaging affect on profits of the two-tiered taxation. The corporate revenues net of all expenses but compensation to the H & W as employees cannot usually be justified all as 'compensation' to H & W to zero them out when there are so many other employees.

409A has provisions that apply to compensation earned in one year and paid the very next. For example sales bonuses and school teachers being paid over 12 months that spans part of two years rather than over just the 9 months worked. These are NQDC plans, subject to and very easy to bring into compliance with 409A.

The key under 409A is to have a written plan and an irrevocable initial election made before period in which earned begins. That is why I chose to use 2009 and 2010 on my example--presuming there is yet time in 2008 to make such an election before 2009 begins.

I don't recall the OP giving details of its NQDC that don't permit of 1 year deferral.

John Simmons

johnsimmonslaw@gmail.com

Note to Readers: For you, I'm a stranger posting on a bulletin board. Posts here should not be given the same weight as personalized advice from a professional who knows or can learn all the facts of your situation.

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Whether it's an S or a C, absent some highly unusual circumstances which we don't have in front of us, terrible idea. Why expose the money to the claims of creditors in the event of bankruptcy of the corporation if it's going to be subject to immediate tax anyway (either corporate tax if a C corporation or individual tax if an S)?

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