On September 10, 2007, the Treasury Department and the Internal Revenue Service (IRS) released Notice 2007-78, which provides certain limited relief from the documentary compliance deadlines set forth in the final regulations under Section 409A of the Internal Revenue Code ("409A"). This guidance comes, in part, in response to relief requests from the benefits community, including a letter to the IRS from a group of 92 law firms, including White & Case LLP. For a detailed discussion of this request for additional relief under 409A, please see our Client Alert dated August 23, 2007. However, the relief provided in Notice 2007-78 is limited in comparison to the relief requested in the 92 law firms letter. Employers should note that Notice 2007-78 does not extend most key transition relief past the end of 2007. As a result, we recommend that employers still conduct full reviews of their nonqualified deferred compensation plans and implement 409A compliance changes this year.
For more on 409A and the requirements prior to the relief in Notice 2007-78, please see An Analysis of the Final 409A Regulations on Deferred Compensation.
The following is a summary of some of the highlights of Notice 2007-78 and, more importantly, the deadlines that were not extended by the Notice. The transition relief and guidance contained in Notice 2007-78 includes the following:
- The deadline for bringing documents into compliance with the final nonqualified deferred compensation regulations under 409A is extended from December 31, 2007 until December 31, 2008. However, the time and form of payment of nonqualified deferred compensation must still be documented, in a manner that complies with 409A, by the end of 2007. Non-compliant plan terms will be disregarded provided that the plan is (i) operated in full compliance with 409A after 2007 and (ii) amended prior to the end of 2008 to comply with 409A retroactively from January 1, 2008.
- The application of 409A to employment agreements is clarified. Specifically, employers may modify the definition of "good reason" in an existing employment agreement before the end of 2007 to more closely track the "good reason" definition in the final regulations, without such modifications being considered the addition or extension of a substantial risk or forfeiture that would otherwise be ignored under 409A, provided that, prior to such changes, the amounts payable under such agreement were subject to a substantial risk of forfeiture under 409A. Changes to the "good reason" definition will not otherwise cause amounts that are not subject to a substantial risk of forfeiture to become subject to a substantial risk of forfeiture. In other words, an agreement with a non-compliant good reason definition cannot be modified to cause amounts payable thereunder to be subject to a substantial risk of forfeiture and thereby eligible for certain exclusions from 409A.
- The application of 409A to cashout features is clarified. An installment or annuity payment schedule may provide for cashout of the total benefit on the original payment date, if the present value of the benefit is less than a pre-specified amount on such date. This pre-specified amount must be established when the time and form of payment of the benefit is designated and the provision must be operated in an objective, nondiscretionary manner.
- The Treasury Department and the IRS announce the intention to issue guidance containing a limited voluntary compliance program that will permit corrections of certain unintentional operational violations of 409A.
Notice 2007-78 does not extend the 409A "good faith" compliance period and, as a result, full operational compliance with 409A is required by January 1, 2008. In addition, the rules regarding transition period changes to elections of time and form of payment were not extended. Any change in the time and form of payment of nonqualified deferred compensation made after 2007 must comply with the 409A rules regarding redeferrals and accelerations of such payments will not be permitted. Likewise, transition relief relating to linked plans and discounted stock options was not extended.
Accordingly, employers maintaining nonqualified deferred compensation plans that are subject to 409A should (1) maintain the plans in operational compliance with a reasonable, good faith interpretation of 409A at all times up through December 31, 2007 and in full operational compliance with 409A thereafter, (2) specify the time and form of payment of all deferred compensation in a manner that complies with 409A by December 31, 2007 and (3) adopt amendments to bring the plans into full documentary compliance with 409A, if possible, by December 31, 2007, but in no event later than December 31, 2008, utilizing the relief available in Notice 2007-78, if necessary.