EBECatty

I've had the IRS approve a VCP to retroactively amend to current year ACP testing in the same situation. It would have resulted in a refund of close to $500,000 for most of the employer's key staff, so time and effort for VCP was worthwhile. You may need to focus on timing if this was for 2017. If it's not done by 12/31/18, and the IRS doesn't approve the correction, you would need to make additional QNECs. We submitted about the same time of year with a big, bold note at the top of every page saying it's a time-sensitive correction proposal. Not sure if that made any difference, but it was approved within 2-3 months.

Haven't read through posts, but Section 4972 imposes an excise tax on non-deductible contributions.

In my experience the employer usually factors in the gross-up in determining how much they want to spend per year, i.e., if they were otherwise willing to pay a $10,000 premium each year, they would pay, say, a $7,000 premium and gross-up the employee's taxes to spend a total of $10,000 per year. They generally are used when the employer wants to put restrictions on the employee accessing the cash value. I see very few cases where the employer just decides to pay the premium with no restrictions on cash value access, but that may just be my experience. Arguably if the restriction conditions are something approximating retirement age, you may have created a funded pension plan requiring full ERISA compliance, which is impossible. Also need to be careful in the event the employee forfeits or has to repay some benefits to the employer if they don't stay for the entire restricted period. If the agreement gives the employer any rights to recoupment from the policy, the employer cannot deduct the bonus/premium payments.

A much more succinct version of what I am saying.

I'm not sure; that's what I'm trying to understand. I guess at bottom my question is for what purpose, tax, or code section are you referring to a SROF? If for purposes of constructive receipt and you are using that term interchangeably with "substantial limitation on receipt," then yes I agree. I think we may be using the same words to refer to two different concepts. I'm just trying to better understand as I'm used to using those terms in very specific ways and have not heard them used otherwise. Maybe a simpler example would be better. Say you have a tax-exempt employer subject to 457(f). The employer and employee agree that $10,000 will be credited to the employee's hypothetical account balance by the employer each year for 10 years. The entire amount will be paid in one lump sum upon the employee's separation from service. If the employee voluntarily resigns before the end of 10 years, he forfeits the entire balance. There is no funding mechanism at all; it's a simple promise to pay in the future. The employee is still working after 10 years, and the employer has credited a hypothetical account balance of $100,000. The employee voluntarily retires 5 years after that and is paid $100,000. I think we would all agree under 457(f) the entire $100,000 balance would be subject to income and FICA taxes at the end of the 10-year period (the point at which it is no longer forfeitable even if the employee voluntarily resigns). Section 457(f) and 3121 refer to the end of the 10-year period (i.e., the vesting date) as the date the substantial risk of forfeiture lapses. Even if the $100,000 can be reached by the employer's creditors for the next five years before payment, for purposes of 457(f), 3121, and 409A, it's no longer subject to a substantial risk of forfeiture. Say you have the same plan design for a taxable employer. For purposes of FICA taxes under 3121 the entire $100,000 would be subject to FICA at the end of the 10-year period because the "substantial risk of forfeiture" lapses. It also would no longer be subject to a SROF as defined in 409A. Until separation and payment in the taxable-employer scenario, the $100,000 would be subject to substantial limitation on receipt to delay income tax for purposes of constructive receipt, but I've never heard or used the term "substantial risk of forfeiture" to define that aspect. I've also never heard the end of the 10-year period in my example as the date on which the NQDC plan goes from being "unfunded" to "funded." Those are very clearly different concepts in my experience (and per the IRS audit guidelines you reference).

Maybe I'm being dense and an example will help. Maybe we're saying the same thing a different way. Take an employee of an S corp. He's able to defer a portion of his own salary and/or bonus into a nonqualified plan. The employer makes dollar-for-dollar matching contributions each year up to 5% of the employee's compensation. The employer also makes "discretionary" contributions each year. If the employee voluntarily resigns during the first five years following his initial participation in the plan, he forfeits all employer matching and discretionary contributions. The account balance is held in a separate bank account solely in the name of the employer; the employer's creditors can reach the account at all times. There is no security mechanism for payment beyond the employer's mere promise of payment in the future. The entire account balance (except for any portion that has been forfeited) is paid to the employee in one lump sum upon the earliest of termination of employment, death, disability, or change in control. Here's what I would say: For purposes of "vesting" and "substantial risk of forfeiture" the salary/bonus deferrals are always fully vested and are never subject to a substantial risk of forfeiture. This triggers FICA taxes on the salary/bonus deferrals immediately upon contribution to the plan. For purposes of "vesting" and "substantial risk of forfeiture" the employer contributions during the first five years become fully vested at the end of year five and are no longer subject to a substantial risk of forfeiture. This triggers FICA taxes on all employer contributions at the end of year five. Future matching/discretionary contributions are fully vested and never subject to a substantial risk of forfeiture and are FICA taxed upon being credited to the plan. For purposes of "funding" the plan is always unfunded. Both salary/bonus and employer contributions at all times, whether before or after the end of year five when they become nonforfeitable. From the audit guidelines: "An unfunded arrangement is one where the employee has only the employer's "mere promise to pay" the deferred compensation benefits in the future, and the promise is not secured in any way.... A funded arrangement generally exists if assets are set aside from the claims of the employer's creditors, for example in a trust or escrow account." I read your post as saying as soon as you reach year five the employer matching/discretionary contributions are "funded," constructively received, and taxed immediately even if not paid until termination, death, disability, or CIC. I just don't follow. The IRS audit guidelines seem pretty clear in the "unfunded vs. funded" section that those terms only refer to the unfunded "mere promise of payment" vs. the funded account "beyond the reach of the employer's creditors." The amounts in my example above would not be received (actually or constructively) until paid, then would be income taxed at that point. The risk of the employer not being able to pay, or refusing to pay, vested amounts in the future does not keep them at a substantial risk of forfeiture. What am I missing?

I must be used to different terminology. Or maybe you have a more specific definition of "NQDC" than I do. Genuinely curious. I see vesting all the time in the NQDC world where "substantial risk of forfeiture" is a vesting concept in the sense of "if you work here for five years you will become fully vested in the employer match to the NQDC plan and your employer match account will no longer be subject to a substantial risk of forfeiture." Vesting in the sense that you can quit and walk away with the full account balance. A retention aspect. I encounter funding as a completely separate issue. An NQDC balance can be fully vested (in the sense described above) and still be unfunded in the sense that the employer has not set aside funds for the employee that are beyond the reach of the employer's creditors. Funded vs. unfunded is an issue, but not one that I encounter very often in the typical NQDC plan design conversation. Being "unfunded" does not mean it's subject to a "substantial risk of forfeiture."

Appreciate all the feedback. Thanks. It sounds like the consensus is that settling by the next March 15 should keep the 409A exemption. That was my tentative thought as well but I wanted to make sure I wasn't missing some other guidance on point. Taxation timing was a secondary thought but also appreciate the responses.

Say you have an exempt option or SAR. One of the requirements is that the stock right contains no feature for the deferral of compensation, which is defined as anything other than the right to receive payment upon exercise and would allow compensation to be "deferred beyond the date of exercise." The preamble says "if an arrangement provides for a potential to defer the payment of cash or property upon the exercise or exchange of a stock right beyond the year the right is exercised or beyond the original term of the stock right, the arrangement provides for a deferral feature and must comply with the requirements of section 409A from the time the legally binding right granted by the award arises." So if you exercise the option/SAR now, you can get paid any time during 2018. My question: What if someone exercises an option/SAR when it's administratively impossible to pay them in the same year, e.g., they send their exercise notice at 4:59 p.m. on December 31, 2018. Payment will have to be made in 2019. What's the cutoff? As soon as possible? If it's paid by March 15, 2019, is the payment "deferred" or can you use a short-term deferral like concept to say it's not? If the employee exercises on December 31, 2018, but payment is not made until, say, January 5, 2019, do you report it as 2018 income? Appreciate any insights.

Yes, it's an S corp ESOP so we're somewhat constrained. The goal is to have different allocation rates for different classes of employees primarily on a project-by-project basis. There could be anywhere from 10-15+ at any given time. Getting back to the more basic question, can a plan's allocation methodology say "every participant is their own group" and then rate group test under (a)(4)? I typically associate every participant in a group with new comp testing. Or, if not, can you define the groups in an appendix (or something similar) that doesn't require a formal plan amendment every time it changes?

If it was a plan vanilla PS plan, could you allocate every participant in their own group in the plan document then test under the (a)(4) general test as rate groups?

This would be for an individually designed ESOP, which can only use the comp-to-comp safe harbor or general rate group testing. If the allocation formula was "every participant gets an allocation as determined in the employer's sole discretion" can you rate group test under (a)(4)? If so, the "groups" can be informally used but officially every participant would be in their own group.

Bumping this up with follow-up question. I read this as permitting a plan to have different groups of participants (say groups A and B). The plan must describe groups A and B with enough specificity that the employees in each group can be definitely determined. So group A may be "all employees in the Akron plant" while group B may be "all employees in Duluth corporate headquarters." But the plan can't say a group is "all of the participants the employer assigns to group __ at the end of the plan year." The employer also has complete discretion as to the amount of contribution made to each group, and that doesn't need to be in the plan document. The contributions to each group may be different. However, the plan document must specify how each group's contribution is allocated within the group. So the plan can say "the employer will contribute an amount, if any, in its sole discretion, to each group with respect to a plan year, which amounts need not be the same." But the plan must say definitely how the contribution to each group is allocated (for example "based on ratio of each participant's compensation to the group's compensation"). Hopefully none of that is controversial. Here's my question: Can you list the groups (and change the groups) in a separate appendix to the plan and change the appendix without a formal plan amendment? For example, if you want to add a new group C of "all employees in California," can you swap in a new appendix without amending the plan, or do you need a formal plan amendment each time? The guidance above says groups have to be identifiable in "the plan" but I've seen certain aspects get pushed into admin procedures or appendices that are incorporated by reference into the plan document. Would that be pushing it to constitute a definitely determinable formula "in the plan"? Appreciate any feedback.

May want to search under the SIMPLE topics as I know there have been a few threads recently on this same issue that generated some comments.

I would ask the reviewer for their input. I've found them to be pretty lenient on minor issues like this when they are the only thing standing in the way of closing out a favorable DL. Even if it can't "officially" be amended retroactively, we typically have no problem amending during the DL process to accommodate their requests.

From the DOL DFVCP FAQs: Q16. May an administrator of an apprenticeship and training plan, as described in 29 CFR § 2520.104-22, or an administrator of a top hat plan, as described in 29 CFR § 2520.104-23, participate in the DFVCP? Yes. Administrators of apprenticeship and training plans and administrators of pension plans for a select group of management or highly compensated employees (top hat plans), may file the applicable notice and statement described in regulation §§ 2520.104-22 and 2520.104-23, respectively, under the DFVCP in lieu of filing any past due annual reports. By properly filing these statements as described in regulation §§ 2520.104-22 and 2520.104-23 and meeting the other applicable DFVCP requirements, administrators will be considered as having elected compliance with the exemption and/or alternative method of compliance prescribed in §§ 2520.104-22, or 2520.104-23, as appropriate, for all subsequent plan years.

Interesting, thanks for sharing MoJo. I'm putting together a submission right now with similar facts, so I'll be interested to see if I get the same language back. I don't typically use the phrase "scrivener's error" but I think that would only knock out paragraph 1, with the substantive paragraph 5 remaining. I usually try to front-load as many supporting facts as possible in the original submission. Maybe they've raised the bar.

I'm curious how you see this playing out. If the two employers are not an "Employer" under the 409A regs, when do you have a separation from the first employer if not at the time of transfer? Would you say a separation is when you separate from all employers in the plan, with your entire balance (both from the first and second employer) being tied to the separation from all employers? Not saying any of this is right or wrong, just thinking out loud.

If a corporation (A here) owns 100% of another corporation (B here) they are in one controlled group. Doesn't matter than an ESOP owns A.

Agree completely. I tend to use actual practice rather than the SPD. For example, if a plan doc (erroneously) says no minimum eligibility requirements, and the SPD is consistent because the same software generated both, but in practice the plan sponsor has always used age 21 / 1 YOS, I think that shows the intent. I've also never had any plan sponsor pick up on a document error like this because a participant (or non-participant) read the SPD and brought it up. It's almost always raised by the plan's auditor. EDIT: I should note that I've usually seen this situation arise where a plan term got mixed up in a restatement or document migration. In other words, there was at one point correct plan language, but it got translated incorrectly for some reason. I'm not advocating for completely ignoring the plan's terms then going back and saying "but we've always ignored the plan's terms."

The IRS says they don't allow fixes for scrivener's errors, but usually will accept a retroactive amendment "to conform to the plan's operation" under VCP. My view generally is if the plan was operated more generously than the erroneous document (e.g., the document erroneously says last day and 1000 hours for a PS allocation, but intent and operation has always been last day with no hours requirement) I recommend the sponsor just adopt a retroactive amendment with the reasoning laid out in the board resolution. In the opposite case (e.g., plan doc says 1000 hours for PS allocation, but sponsor intended and operated as 1000 hours and last day), I recommend VCP to retroactively amend to prior operation.

Thank you!

Straying from the OP, but say the same hypo came up with a promise to pay cash. For example, employee is entitled to $100,000 within 30 days of a CIC. Owner of company changes mind and decides not to sell company, but still wants to reward employee. If they want to add payment of $100,000 upon separation from service, it couldn't be paid until 5 years after a CIC. Still an odd outcome. EDIT: I've had this conversation before as well: In my example, can you terminate the CIC-related agreement (which is exempt as a short-term deferral) and create a new agreement promising $100,000 upon separation from service? Is that form over substance such that the anti-abuse rule may be triggered? An impermissible substitution? A deferral of a short-term deferral subject to the subsequent deferral rules? Or is it perfectly fine?

Say a fully insured group health plan covers 100+ participants. The company (plan sponsor) is sold during 2017 and the group health plan ends, and the policy expires, on December 31, 2017. The employees are hired by the acquirer effective January 1, 2018. The 5500 instructions say not to check "final return" if "the plan is still liable to pay benefits for claims that were incurred prior to the termination date, but not yet paid." Two questions: 1. Is 2017 the final return, or does the fact that the insurance company may still receive and pay claims require another 5500 for 2018? 2. If the answer above is yes, presumably the active participants at the end of the plan year would be 0, even though the policy ended at 11:59 p.m. on December 31, 2017, correct? You can't file a final return with a participant count >0, so this seems logical.

Thanks for the clarification. You're right--that is useless. I've seen similar plans, but only where our clients have used the DIY method of plan design then informed us after the fact. The operation becomes more like a SAR or phantom equity plan payable only on a CIC--they have the right to exercise the option in connection with the CIC then participate in the sale. We strongly encourage them to reconsider as there are no advantages and lots of disadvantages.