Is this a nonqualified deferred compensation arrangement?

[katieinny]

An employer plans to hire a sales person. The employer is planning to offer this person a substantial sum of money to be paid over 10 years AFTER the employee terminates service in exchange for the book of business he or she builds up over the years.

Is that a nonqualified deferred compensation arrangement -- or a non-compete agreement?

[GBurns]

That depends on how the agreement is worded and the source of the funds.

If it is a reduction of what would otherwise be paid as current commissions, then it is deferred compensation.

If it is not derived from current sales compensation, but is "trailer" commission payable each subsequent year for each year that the business stays on the books, then it is not deferred compensation.

Then again depending on the wording, it could be a purchase of rights of ownership of the book of business, which would not be deferred compensation.

If it is for the purpose of keeping this person from replacing the business with that of a competitor, or for working for a competitor, it is not deferred compensation and should be in a NCA.

There were a few recent cases involving agents from a few different insurance companies and 1 from a real estate company that touched on this issue, such as what comprises the sale of such a book of business and how such payments should categorized, commission or capital gains. Many related issues were also touched. I think that Allstate and Nationwide were 2 of the companies.

[katieinny]

Thank you for your insights. I will see what I can find on those recent cases you mentioned.

[Kirk Maldonado]

Gburns:

I didn't double-check to make sure, but I thought that the proposed 409A regs take the position that non-competes are generally deferred compensation. It could be that this position wasn't stated explicitly but it was implicit in either the regulations or the preamble.

[GBurns]

Never seen or heard of such a thing anywhere in any of the very many reports, summaries and analyses etc put out.

I thought that it was the concensus in other threads, that a non compete could not be deferred compensation. A non-compete does not defer any income that could be currently received etc. Many are only signed at termination and the employee is only vested after termination. It is acondition of unemployment not a benefit of employment. I remember mbozek in particular pointing these things out.

I also thought that there was a notice at the end of 2004 or very early in 2005 that addressed part of the issue and exempting NCAs from 409A because of something related to substantial (or lack of) risk of forfeiture.

[Guest Harry O]

Back to the original post . . .

I would think this arrangement is definitely deferred compensation subject to 409A. The employee has a binding right during a taxable year to amounts that will be paid in a later taxable year. I don't think it qualifies for the short-term deferral exception because the implied promise not to compete is not considered a substantial risk of forfeiture under Prop. Reg. 1.409-1(d)(1).

But that said, what is the big deal with complying with 409A here? It appears that the arrangement is nonelective and simply calls for a payment on a fixed date 10 years after termination of employment. Seems to be easy to fit under 409A . . .

[Guest mjb]

A-4 (a) of Notice 2005-1 defines deferral of compensation to include a plan where the employee has a legally binding right during a taxable year to compensation that has not been actually or constructively received and included in gross income and that pursuant to the terms of the plan is payable to the employee in a later year. While the employee does not have a legally binding right to compensation that may be unilaterally reduced or eliminated by the employer after the services have been performed, compensation is not considered to be subject to unilateral reduction or elimination merely because it may be reduced or eliminated by operation of the objective terms of the plan such as the application of an objective provision creating a substantial risk of forfeiture.

There is no requirement for deferred compensation under 409A that the employee must have a choice between receiving cash today and a deferral of compensation. I dont see what the problem would be with complying with 409A since the agreement will be in writing to pay the employee a stipulated amount at a future date.

[TCWalker]

Deferred comp.

[katieinny]

We're not concerned about 409(A). That part's easy. We are concerned about qualifying for the ERISA Top Hat exemption, because, perhaps, 50% of the workforce will be included in this arrangement.