Last summer the Internal Revenue Service updated its Audit Techniques Guide (“ATG”) for nonqualified deferred compensation arrangements. While the ATG provides little instruction on how the IRS will review nonqualified deferred compensation arrangements for compliance with Section 409A of the Code, it provides a helpful reminder of some of the other rules applicable to nonqualified deferred compensation arrangements. Among other things, the ATG reminds sponsors of nonqualified deferred compensation plans to be attentive to the following issues:
- Deferred compensation arrangements must be in writing.
- Immediate taxation to a participant could arise if the deferred compensation is not subject to substantial limitations or restrictions (e.g., immediate taxation will arise if the participant can draw on the deferred compensation at any time or if the participant can borrow against the deferred compensation).
- Immediate taxation to a participant could arise if the participant receives an immediate economic benefit with respect to the deferred compensation (e.g., the deferred compensation is set aside in an account in the participant’s name or the deferred compensation is not subject to the claims of the company’s creditors).
- Whether FICA and FUTA taxes have been timely withheld. Unlike income tax withholding, FICA and FUTA taxes are generally required to be withheld when an amount of deferred compensation vests (which usually occurs before the deferred compensation is actually paid). The ATG specifically indicates that the IRS will examine previously filed Form W-2s to determine whether FICA and FUTA taxes were timely withheld.
- A 401(k) plan cannot condition other benefits, including nonqualified deferred compensation benefits, on a participant’s decision to make (or not make) contributions to a 401(k) plan. A deferred compensation arrangement that limits participation to participants who do not make 401(k) plan contributions violates this rule and runs the risk of disqualifying the sponsor’s 401(k) plan.
The full text of the ATG can be found here.