Federal Credit Unions & NQDC Plans

[Guest Joshua]

IRS Notice 2005-58 (July, 2005) made NO provision for a source of authority for nonqualified deferred compensation (NQDC)plans in Federal Credit Unions AFTER the August 15, 2005 deadline to have in place or authorize a plan under 457, eligible or ineligible. Looks like the IRS project on FCU's is no place close to an answer and won't be until way into 2007, since the interagency committee to review FCU's has not even met yet, if my information is still current.

So, does anyone think that there is a nonqualified deferred compensation plan, DC or DB, that can be safely created for an FCU during this period before the IRS completes its project and establishes a specific authority for FCU's. If so, what does it look like and what is the argument that it will be OK regardless of the unknown outcome of the project on FCU's and NQDC plans, since I don't believe there is any authority for correction if the drafter guesses wrong?

I've seen marketing materials suggesting that it is "conservative" for FCU's to proceed with a 457(f)/409A plan design(no legal support) in the current situation.

[jpod]

A plan that provides deferred compensation subject to a substantial risk of forfeiture with payment simultanous with vesting will work. In other words, tax liability is deferred until the payment/vesting date. There is no provision in the Code or any judicial doctrine that would tax compensation while it is subject to a substantial risk of forfeiture.

[Guest mjb]

I thought the point of the PLR which said that FCU are not subject to 457 was that the 457 rules did not apply to FCU and that FCUs could apply the rules that apply to profit making organizations, e.g. 409A with no $ limits. There is no prohibition against a FCU establishing a NQDC plan subject to the limits for 457 plans provided the rules for 409A are complied with.

[jpod]

mjb: IRS' feeling (at least tentatively) is that because the obligations of a federal instrumentality are backed by the full faith and credit of the Federal gov't, deferred compensation is includable in gross income at time of vesting under the economic benefit doctrine. This doesn't seem correct to me, but that's what IRS was saying, informally, after the PLR was published.

[Guest mjb]

Who told you that? I cant believe that the Fed govt is obligated to pay the debts incurred by a Fed chartered credit union to its employees (depositors, yes). Fannie may and freddie mac are not backed by Fed govt credit and they are charted by Fed govt. Do the speakers cite any authoriity for their position.

[jpod]

That is the word on the street in the Credit Union industry.

Why are you being so argumentative? I already said that the full faith and credit argument seemed incorrect to me. Are you that much in need of always having the last word? You must be great fun to work with.

[Guest mjb]

What are you advising FCU clients about establishing deferred comp plans? Yes or no?

[jpod]

I am advising them that if they design plans assuming they are subject to 457(f) restrictions they will be safe.

[Guest Joshua]

Thanks for your thoughts thus far!

I appreciate the idea of giving consideration to proceeding to create a NQDC plan for an FCU under general income tax principles in the meantime. I'm supposing some of you are agreed you'd give an opinion of counsel that a NQDC plan for a FCU could be drafted & operationally administered now during this Notice 2005-58 black-out period that would achieve income tax deferral and would not be taxable until the benefits become vested, at least. And, you'd be willing to litigate that plan if the IRS contested it once new authority for FCU NQDC plans is established in the future, since you'd be only guessing that the plan created would properly conform to any new final new regulations or guidance for such FCU plans?

But, that's different for an FCU client than saying I can draft a plan for an FCU that conforms and is operationally compliant to 457(f) and 409A per the tax code, because the Code says that such plans for such entities are specifically covered by these code sections, and saying I can draft one that I believe would withstand a challenge in court even though it is not clear what rules apply right now per IRS notice.

Moreover, if an interim NQDC plan design is based upon 457(f) and 409A guidance concepts ( a likely approach to documentation), wouldn't it be "way off" compliance if the IRS comes back with a regulatory plan structure that looks more like a 457(b) structure? Wouldn't this issue be more severe for an FCU in litigation later since Notice 2005-58 specifically places FCU's on notice that the use of 457 rules for FCU plans ended on the August 15, 2005 deadline?

Thanks

[jpod]

If you draft a plan under which payment and vesting are simultaneous the result is: (a) you will avoid taxation until vesting, and (b) the plan will not have deferred compensation subject to 409A (under the "short-term deferral" rule). If payment is deferred to a calendar year beyond the year of vesting, you are taking a risk that the payment will be taxable upon vesting nonetheless.

[davef]

We've been advising federal credit unions in the same manner as jpod suggests. Also, in discussions with the IRS back when Notice 2005-58 was issued, a person close to the issue indicated to us that there was no intention that FCUs would be prevented from setting up new 457 plans post-August 15. According to this source, the main ramification would be that these new plans would not be able to take advantage of any transition rules that might be issued that would apply to already established plans.

[Locust]

It's a mess. For current arrangements, I think we should wait. For new ones I suppose you could structure it as proposed by jpod, with the expectation that you would be able to refine it once a decision is made (whether 457 applies). If 457 doesn't apply, would you be able to remove the vesting? Probably ok under 409A. If 457 does apply, would you be able to condition vesting on non-competes or have rolling vesting? Maybe. - but that's another issue.

[Guest Joshua]

Thanks Locust for your additional comments. Do any of you think it makes a difference whether we're talking about a voluntary defined contribution plan or an employer-pay-app SERP (whether in DB or DC form) for the FCU?