Basic Severance Plan Exempt from 409A

[401 Chaos]

Question: For a bare-bones severance plan that provides severance that (1) qualifies for the separation pay plan exception and (2) includes a provision requiring that all amounts be paid out no later than March 15, 2009, would there be any problem in the plan giving participants a choice between (1) receiving a lump sum benefit in early 2009 (prior to March 15th) or (2) receiving 10 weeks of continued pay in weekly installments.

I suppose there might be some constructive receipt issues with providing that sort of choice but it is not clear to me that 409A would govern if the severance amounts would be exempt under either or both the separation pay and short term deferral rules.

[JanetM]

Severance pay plan exempt from 409A if you meet the requirements. Payment must be complete by end of second year after termination and can be at mopst the lesser of 2X comp in yr prior yr of term or the 401a17 limit. There are are also rules that can exmept CBA severance plans and windows.

[401 Chaos]

JanetM, Thanks for your response. Let me refine my question a bit: I do not believe there is anything in either the separation pay exemption or short term deferral exemption that demand that participants have no choice as to the time and form of payment (provided the choices all ensure compliance with the exemption). Colleauge was concerned that giving employees a choice between lump sum and installment payments might still run afoul of 409A even if they were exempt. That does not seem to be the case to me, however. Seems if they are exempt, then participants can be given clear choice. (Company had provided choice in RIFs before and wants to do the same in this case.)

[JanetM]

My understanding is you can still meet either exemption even if you give them a choice of continued pay or lump sum. Not sure why some some would think you can run afoul of the rules when what you doing is clearing given and exepmtion.

[Guest Mr. Kite]

The 409A preamble specifies that if the service provider has a choice to choose between two types of compensation, neither of which is subject to 409A, the election between the two does not have to satisfy 409A criteria. So, as long as the service provider's options don't involve 409A payments, the choice between lump sum or installments will not be subject to 409A.

[Guest Sieve]

For what it's worth, the only severance payment arrangements exempt from 409A are those for involuntary termination of employment (other than those which permit simmply reimbursement for expenses).

[Just Me]

...and those that satisfy the short term deferral exception....

[Guest Tauriffic]

...and those that satisfy the short term deferral exception....

The key here is the short term deferral exemption. It doesn't matter if you offer 10 weekly installments so long as they are paid out in the two-and-a-half month period following the taxable year in which severence occurs. Here, 10 weeks from termination fits within the two-and-a-half window, so you're fine. If the installments stretched past the two-and-a-half month window (even by a day), then the entire sum would be treated as deferred, even if the last installment was a penny. So, in short, all other requirements satisfied, you will meet the short term deferral exemption. See example 7 under Treas. Reg. 1.409A(b)(9)(G)(iv) involving the life annuity.

[Guest Mr. Kite]

...and those that satisfy the short term deferral exception....

The key here is the short term deferral exemption. It doesn't matter if you offer 10 weekly installments so long as they are paid out in the two-and-a-half month period following the taxable year in which severence occurs. Here, 10 weeks from termination fits within the two-and-a-half window, so you're fine. If the installments stretched past the two-and-a-half month window (even by a day), then the entire sum would be treated as deferred, even if the last installment was a penny. So, in short, all other requirements satisfied, you will meet the short term deferral exemption. See example 7 under Treas. Reg. 1.409A(b)(9)(G)(iv) involving the life annuity.

The life annuity rule is a different animal, because it is always treated as a single payment. See 1.409A-1(b)(4)(i)(G), 1.409A-2(b)(2)(ii). However, a series of installment payments may be treated as a series of separate payments, in which case the short-term deferral rule will apply to those payments that are made within the applicable 2-1/2 month period. See 1.409A-1(b)(4)(i)(F), 1.409A-2(b)(2)(i) and (iii). In this case, the separate payments following the 2-1/2 month period will be subject to 409A unless the separation pay exception applies.

[Guest Tauriffic]

...and those that satisfy the short term deferral exception....

The key here is the short term deferral exemption. It doesn't matter if you offer 10 weekly installments so long as they are paid out in the two-and-a-half month period following the taxable year in which severence occurs. Here, 10 weeks from termination fits within the two-and-a-half window, so you're fine. If the installments stretched past the two-and-a-half month window (even by a day), then the entire sum would be treated as deferred, even if the last installment was a penny. So, in short, all other requirements satisfied, you will meet the short term deferral exemption. See example 7 under Treas. Reg. 1.409A(b)(9)(G)(iv) involving the life annuity.

The life annuity rule is a different animal, because it is always treated as a single payment. See 1.409A-1(b)(4)(i)(G), 1.409A-2(b)(2)(ii). However, a series of installment payments may be treated as a series of separate payments, in which case the short-term deferral rule will apply to those payments that are made within the applicable 2-1/2 month period. See 1.409A-1(b)(4)(i)(F), 1.409A-2(b)(2)(i) and (iii). In this case, the separate payments following the 2-1/2 month period will be subject to 409A unless the separation pay exception applies.

How does the separation pay exception work? I agree on the installment v. annuity point you raised. Thanks for correcting me on that.

[Guest Mr. Kite]

The separation pay exception will work as long as the requirements of 1.409A-1(b)(9) are met. If the 10-month payout meets the short-term deferral period and/or the involuntary separation pay exception, 409A won't apply -- but this does not mean that the constructive receipt doctrine does not apply. (Don't know if CR will apply -- just sayin').