409A Short-Term Deferral with Earnout

I'm curious to hear others' thoughts on the interaction of the short-term deferral exemption with the earnout provisions of 409A. Say an employee has an agreement that pays out the full value (i.e., not a SAR) of 1,000 shares of company stock upon a change in control, but only if the employee is employed on the date of the CIC. Clearly a short-term deferral. 

What if the agreement also uses the earnout provision for transaction-based compensation, allowing the employee to receive contingent payments over the next five years as and when the selling shareholders receive them? The employee does not need to remain employed for the next five years.

This seems to add a deferred payment that would blow the short-term deferral exemption. (I'm not sure each separate earnout payment would be considered subject to a SROF on its own.) 

The earnout provisions, as I read them, do not exempt the arrangement entirely from 409A, but rather say that the payment timing will not violate the initial deferral election rules or the fixed time of payment rules. In other words, the series of earnout payments will be deemed to comply with 409A. 

The proposed regulations address this issue for stock rights and allow them to remain exempt from 409A even if they include an earnout provision.

But what about a short-term deferral?

Isn’t that addressed in the latter portion of § 1.409a-3(i)(f)(iv)(A):

 If before and in connection with a change in control event described in paragraph (i)(5)(v) or (i)(5)(vii) of this section, transaction-based compensation that would otherwise be payable as a result of such event is made subject to a condition on payment that constitutes a substantial risk of forfeiture (as defined in § 1.409A-1(d), without regard to the provisions of that section under which additions or extensions of forfeiture conditions are disregarded) and the transaction-based compensation is payable under the same terms and conditions as apply to payments made to shareholders generally with respect to stock of the service recipient pursuant to a change in control event described in paragraph (i)(5)(v) of this section or to payments to the service recipient pursuant to a change in control event described in paragraph (i)(5)(vii) of this section, for purposes of determining whether such transaction-based compensation is a short-term deferral the requirements of §1.409A-1(b)(4) are applied as if the legally binding right to such transaction-based compensation arose on the date that it became subject to such substantial risk of forfeiture.

 I have not looked at this in a while but the way I understand the quoted provision it can apply to a deal bonus that is based on the transaction price paid for a company and payable, e.g., to a CEO upon closing of a covered transaction.  If the CEO is paid on the same schedule, terms and conditions applicable to the shareholders and the applicable conditions qualify as an SROF (determined as if the conditions were being applied to a new award) the subsequent deal bonus payments would be treated as exempt from 409A as a short-term deferral.  I also note that this portion of the reg doesN'T refer to the 5-year payout rule so I thought that these types of earn out payments made within 5 years of the transaction don’t have to be subject to an SROF to be compliant under this exception (but I am definitely foggy on this).

Thanks, Artie. That's helpful. I had always read that provision as allowing for re-deferral or imposition of new vesting conditions by the buyer, but a second look may cover earnout payments that are sufficiently contingent (e.g., an earnout based on post-closing financial performance, but not necessarily a deferred portion of the purchase price not subject to a SROF). Appreciate it.

Ooops...I noticed I wrote a "does" where I meant to write "doesN'T"... revised