Delayed salary or Deferred compensation

[GBurns]

Small C Corp is having financial problems, really cash flow problems and the CEO (sole shareholder) wants to help by not taking salary. He does not want to give away the benefit, he wants to delay being paid until cash flow improves in about 8 months when payments on job contracts start to come in. The company will accrue the salary liability on the books until paid.

Is this a deferred compensation arrangement/plan subject to 409A?

Is it subject to anything else?

When is FICA etc due ?

If you have seen anything like this and can point me to wording for such an agreement, I would greatly appreciate it.

[J Simmons]

Hi, George,

I think you'd have 409A issues. I don't have sample language. You might want to consider making the payroll and then having the CEO/sole shareholder loan the net pay back to the corporation. I realize this causes the payroll taxation currently, but otherwise I think you are in 409A.

[david rigby]

Is it delayed salary, or is the owner planning to pay himself a bonus at some later date?

[401 Chaos]

We've seen some similar arrangements in the past but mostly where key employees agree to a significant reduction in salary with the right to be reimbursed at some future date if certain metrics are hit. In those cases, there were express agreements between the company and the employees stating what new salary was going to be and what triggers were required in order for the amounts to be paid out. The amounts to be paid were to be paid in a lump sum cash amount within 30 days of reaching the targets. In some cases the arrangements were conceived before 409A but we took the position that they were not vested amounts so 409A likely applied. We also, however, made argument that the amounts should satisfy the short term deferral exception since they were to be paid within 30 days of the individuals vesting in the amounts. Not sure if that helps your situation or not but perhaps that would be one way to address it. I suspect in your case though the CEO would like to view the amounts as generally vested and not subject to some milestone or performance criteria. I think in those cases you could have full 409A concerns.

[Lori Friedman]

You mention that the business owner would receive his compensation in approximately 8 months, which would be during February 2009. Have you thought about using the 2-1/2 month rule? Assuming that the business will have the cash resources to pay the individual as expected, his delayed compensation can avoid 409A. Also, if the C corporation has a calendar tax year, it can take a 2008 deduction for the compensation expense.

[Steelerfan]

could he temporarily change himself to an accural basis tax payer? In that case, he and the corporation could treat the salary as a current expense, pay the income and FICA, etc. taxes and then receive the cash later; the corporation would get an immediate deduction. 409A would not be an issue since you are not deferring taxes.

[J Simmons]

Steelerfan,

That sounds like the same result as doing the payroll and then having the shareholder-employee loan the pay remaining after payroll taxes to the corporation. Is there some advantage I'm missing that is gained by going to the extra effort of changing accounting methods to accrual over simply doing a loan?

[QDROphile]

Can an individual be an accrual basis taxpayer?

[GBurns]

david,

Not a bonus, just a delay in getting agreed salary.

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I am not sure that an individual can be accrual basis, but it deserves a look.

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Lori

What is the 2 1/2 month rule?

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Thanks to you all for the input.

[Guest Exec_Ben_N_Ret_Med_Guru]

What is the 2 1/2 month rule?

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The short-term deferral rule.

Making a very long story very very short:

It was basically enacted because typically bonuses for year X are paid within the first 2.5 months of year X+1. If actually paid within that period, 409A basically doesn't apply. However, the amounts are actually deferred, and you can construct rules that re-defer the amounts if the re-deferral complies with 409A.

[Steelerfan]

Steelerfan,

That sounds like the same result as doing the payroll and then having the shareholder-employee loan the pay remaining after payroll taxes to the corporation. Is there some advantage I'm missing that is gained by going to the extra effort of changing accounting methods to accrual over simply doing a loan?

It seems like it would just be much easier if it's possible

[Guest mjb]

why is there a need for the owner to elect to defer his compensation instead of just reducing his comp to 0 until the business recovers and then pay himself a salary?

[Steelerfan]

OP said he doesn't want to "give away the benefit."

[J Simmons]

If the IRS were to challenge the later, beefed up amount as excessive, and thus try to recharacterize some of that payment as dividends (income taxed both at the corporate and shareholder levels), the corporation and shareholder would be hardpressed to explain that the value of his personal services was truly zero, but then miraculously the beefed up amount. If the corporation/shareholder answered the IRS by explaining it was really deferred payment of compensation in the zero era, then you'd have a 409A 20% tax problem.

[Guest mjb]

If the IRS were to challenge the later, beefed up amount as excessive, and thus try to recharacterize some of that payment as dividends (income taxed both at the corporate and shareholder levels), the corporation and shareholder would be hardpressed to explain that the value of his personal services was truly zero, but then miraculously the beefed up amount. If the corporation/shareholder answered the IRS by explaining it was really deferred payment of compensation in the zero era, then you'd have a 409A 20% tax problem.

I dont see how taking no comp would be a problem under IRS rules if he is the owner and the company is not making any profit. Last year a couple of CEOs of investment firms voluntarily cut their salaries from 30+ M to under 1M because the firms lost $B. I dont think the IRS would charactize a restoration of their salaries this year as a dividend if the companies are profitable. The answer to why the owner's salary is 0 is because the company lost money and could not affort to pay him a salary.

[GBurns]

I guess he could cut salary to $0 then revert when the cash flow permits, however that would mean that he "gave up" or "lost" that money and the C Corp loses the deductibility.

If he reverts to the previous amount plus an amount that would over a period make up the "lost" amount, he might face IRS characterization of the amounts as being unreasonable when audited some time in the future, especially if he gets further salary increases.

I am also not sure that any of the announced salary reductions referred to by mjb will stand up to IRS or SEC scrutiny. In fact, I do not recall any opinions being given regarding the legality etc of reducing or forgoing salary in that manner especially if also a stockholder etc.