As most employers are aware, the obligation to report non-qualified deferred compensation (NQDC) that complies with Internal Revenue Code (IRC) Section 409A is currently suspended, but non-compliant NQDC is required to be reported in Box 12 of an employee’s Form W-2.
Employers should also be aware of the additional Form W-2 reporting requirements that may apply to NQDC, including equity awards that are considered NQDC, such as deferred restricted stock units: the obligation to report payments of NQDC in Box 11 of a Form W-2.
Box 11 Reporting
The purpose of Box 11 is for the Social Security Administration (SSA) to determine if any part of the amount reported in Box 1 or Box 3 (which reports Social Security wages) and/or Box 5 (which reports Medicare wages) was earned in a prior year.
For individuals receiving Social Security benefits, wages earned in the current year will reduce the Social Security benefits for that year but wages earned in a prior year do not reduce these benefits. The SSA uses this information to verify that they have properly applied the social security earnings test and paid the correct amount of benefits.
Special Reporting Rules
Form W-2 instructions generally require the distribution or payments of NQDC to be reported in Box 11. However, payments of NQDC are not required to be reported in Box 3 or Box 5 because these amounts are not normally subject to Social Security or Medicare tax at the time of payment as taxes have already been collected at the time that NQDC was no longer subject to substantial risk of forfeiture (assuming this occurred in earlier years). Special reporting rules apply for years where an employee has both received the payment of NQDC and has deferred NQDC. Generally, nothing is reportable in Box 11 if both NQDC deferrals and payments occur in the same year. Instead, if the employee will be 61 by the end of the year, the amount earned (deferred) is reportable on form SSA-131. Otherwise, the company can provide employees with a letter to present to the local SSA office attesting that income was earned in a prior year.
For example, if an employer grants deferred restricted stock units (RSUs), such as RSUs that provide for payment after the participant terminates employment or provides for vesting acceleration upon meeting the retirement eligibility requirements, the RSUs are considered NQDC and subject to Box 11 reporting obligations.
When the substantial risk of forfeiture lapses – such as when retirement eligibility requirements are met – the value of the RSUs is reportable in Box 3 (up to the Social Security wage base) and Box 5. However, the “deferral” of the RSUs that is reportable in Boxes 3 and/or 5 is not reportable in Box 11 in the year of the deferral. When the RSUs are eventually settled (e.g., upon retirement or following termination), the value of the shares issuable upon settlement of RSUs would be reportable in Box 11 (except if the employee has income from deferrals and payments in the same year (as noted above)).
A similar reporting obligation applies to non-employee directors and other independent contractors – payments of NQDC to such individuals are reportable in Box 7 on Form 1099-MISC.