The Internal Revenue Service (IRS) recently issued Notice 2010-6 (the Notice) providing a documentary corrections program for nonqualified deferred compensation arrangements under Section 409A of the Internal Revenue Code (Section 409A). The IRS previously issued a corrections program for operational failures under Section 409A under IRS Notice 2008-113, and provided a limited exemption for documentary failures under proposed regulations.1 The new Notice provides additional relief for certain Section 409A documentary failures, as well as clarification on certain corrections of operational violations which were described in Notice 2008-113.

Noncompliance with either the documentary or operational requirements of Section 409A can result in an employee (references to an “employee” in this Update are intended to mean any “service provider” as defined in Section 409A) having to recognize vested deferred compensation as income, even if the income is not paid until a later date. This income is subject to regular income tax, plus a 20 percent additional income tax and, in some cases, an additional premium interest tax. The IRS has recently begun auditing arrangements for Section 409A compliance, and both documentary and operational compliance are important.

Overview of Corrections Program

The Notice is highly technical and prescribes correction methods for only certain types of document failures. In some cases, income inclusion under Section 409A may be avoided, while in other cases, the amount of the Section 409A income is merely reduced.


  • Inadvertent Errors. The Notice only allows correction of document failures that are unintentional and inadvertent, and which do not involve certain abusive “listed transactions.”
  • Plan Aggregation. The Notice requires that an employer (references to “employer” in this Update are intended to mean any “service recipient” as defined in Section 409A) take commercially reasonable steps to identify all plans or agreements which have a substantially similar type of failure and effect similar corrections for each arrangement.
  • Not Under Examination. The Notice does not provide relief if the federal income tax returns of the employee or employer are under examination by the IRS with respect to nonqualified deferred compensation for any taxable year in which the documentary failure existed.
  • No Linked Plans or Stock Rights. The Notice generally does not provide relief for failures related to nonqualified deferred compensation arrangements linked to other deferred compensation plans or tax-qualified retirement plans, or stock rights (i.e., stock options or stock appreciation rights).

Types of Failures Which May Be Corrected

The Notice allows correction of the following types of documentary failures:  

  • Impermissible Definitions. Section 409A only permits payment upon the occurrence of certain events, which are explicitly defined for Section 409A purposes (e.g., separation from service, change in control event, and disability). Arrangements that contain an impermissible definition may be amended to revise the term to conform to the Section 409A definition.
  • Impermissible Payment Schedule after Permissible Payment Event. Section 409A only allows for payments upon certain events and requires an objectively determinable, non-discretionary payment schedule following such event. Arrangements that give an employee impermissible discretion regarding the payment schedule may be amended to conform to Section 409A. One notable example of this type of provision is the timing of a payment which is conditioned on an employee’s execution of a release of claims following a separation from service. The Notice specifies that it is permissible to indicate that payment will be made on a specified date (e.g., 60 days) following the separation from service, provided that the employee executes a release of claims prior to such date. However, a provision which indicates that payment will be made within 60 days following the separation from service (subject to the execution of the release during such period) will not comply with Section 409A and such provision may be amended to specify that payment will occur on a fixed date (i.e., the 60th day following the separation from service).
  • Impermissible Payment Event and Payment Schedule. The Notice covers a number of situations in which an arrangement provides for payment upon an event not permitted under Section 409A (e.g., distribution upon a child entering college) or provides for improper payment schedules (e.g., a provision that provides impermissible employee discretion regarding payment time or form or acceleration of payments). The Notice also addresses reimbursement or in-kind benefits provisions which do not comply with Section 409A (e.g., a provision reimbursing country club dues with an overall cap rather than an annual cap). The Notice specifies corrective amendments for these documentary failures.
  • Failure to Include Six-Month Delay. Section 409A generally requires a six-month delay for payments upon the separation from service to a “specified employee” (generally, officers of a public company). The Notice allows for the amendment of an arrangement to add this provision.
  • Impermissible Deferral Elections. Section 409A contains specific requirements with respect to the manner and timing for both initial deferral elections as well as subsequent deferral elections. The Notice allows for correction of these provisions, although any operational failures (i.e., improper deferrals) resulting from the impermissible provisions will need to be corrected under Notice 2008-113.
  • Initial Adoption of a New Plan. The Notice also provides for special documentary correction relief with respect to an employer’s initial adoption of a new type of plan. This determination is made on an aggregate basis, so it will apply only if the employer does not already have a similar type of plan. The correction must be made before the later of the end of the calendar year in which (or the 15th day of the third calendar month following) the date the first legally binding right to deferred compensation arose under the plan. The employer will also need to correct any operational failures for such plan under Notice 2008-113.

Clarification That Commonly Used Provisions Do Not Violate Section 409A

The Notice also clarifies that certain ambiguous terms that are often used in deferred compensation agreements will not necessarily violate Section 409A. These terms include the following:

  • A provision which specifies that payment will be made “as soon as practicable” following a permissible Section 409A payment event (as long as the payment is made by the end of the employee’s tax year in which the event occurred, or the 15th day of the third calendar month following the event).
  • A provision which specifies payment upon a payment event with an ambiguous definition or fails to specify a payment event. The Notice specifically discusses payments which are made upon a “termination of employment” or “acquisition” — even though these terms do not conform to the permissible Section 409A definitions of a “separation from service” or “change of control event”, use of such terms will not necessarily cause a Section 409A violation.

These provisions generally may be amended to comply with Section 409A without any Section 409A income inclusion and without regard to the reporting requirements set forth in the Notice. However, relief may not be available for these type of provisions if, for example, the employer has a practice of making late payment (for the “as soon as practicable” provision) or intentionally used an ambiguous definition.

Special Transition Relief

The Notice includes the following transition relief.

  • Corrections During 2010. The Notice provides special transition relief if a documentary failure is corrected by amendment on or before December 31, 2010 and any resulting operational failure is corrected in accordance with Notice 2008-113 on or before December 31, 2010. If these requirements are met, the Notice provides that no Section 409A income inclusion is required. Although the Notice does not contain a financial condition requirement for relief, operational failures may not be corrected under Notice 2008-113 if the taxpayer has undergone a substantial financial downturn during the year. This requirement may limit the ability of some employers to take advantage of the transition relief under the Notice.
  • Additional Transition Relief. The Notice also provides transition relief for any corrections of impermissible provisions linking nonqualified deferred compensation plans and payment schedules which are determined by the timing of payments received by the employer, provided that such corrections are made on or before December 31, 2011. In addition, for corrections made on or before December 31, 2011, a non-individual employer will be treated as being under examination (for purposes of eligibility) only with respect to specific document failures that were previously identified as issues in the examination.

Clarification of Operational Corrections

The Notice clarifies certain aspects of Notice 2008-113, including the method to calculate erroneous payments (or deferrals) paid in property, as well as repayments of amounts previously paid to an employee.

Reporting Obligations

The relief provided by the Notice requires the employer to attach a statement to its federal tax return for the year the failure is corrected (and the subsequent taxable year if correction requires that the employee include an amount in income during such year) that generally identifies each employee affected by the failure, the nonqualified deferred compensation arrangement, details of the correction and the amounts involved in the failure. The employer must also provide the affected employee with a similar statement describing the failure, and the employee must attach this statement to his or her federal tax return.

Action Items

The Notice provides taxpayers with an incentive to identify and correct Section 409A documentary failures in order to minimize or avoid early income inclusion and additional income taxes. In particular, because the transition relief allows certain corrections to be made during 2010 without any income inclusion, employers are encouraged to consider whether to implement such corrections this year.

Employers should confirm that all existing nonqualified deferred compensation plans and agreements potentially subject to Section 409A comply with (or are exempt from) Section 409A. In addition to traditional deferred compensation plans, employers should confirm whether employment agreements, offer letters, and severance, change in control and retention arrangements, reimbursement plans, and bonus or incentive plans need to be corrected in order to comply with Section 409A.