Writer Recommends Changes to Proposed Deferred Compensation Regs

First, I want to clarify and emphasize that my comments and suggestions do not relate in any way to the issue of substantial risk of forfeiture. The regulation requires a contingent event that is a substantial risk of forfeiture to relate to a purpose of the compensation. My comments relate to a contingent event that relates solely to the amount or time of payment of a benefit that is already vested and therefore subject to 409A.

Second, the term "objectively determinable at the time the amount is deferred" in § 1.409A-3(g) seems to be causing a lot of problems and confusion in applying the reg in a sensible way. I believe about one-half of the emails circulating on the ACEBC listserve could be resolved in a workable manner without undermining the purpose of the statute as I understand it. My comments offer suggestions along those lines.

Third, there is a long tradition in the tax law recognizing events of independent significance. I think there is a place in the 409A scheme for that principle.

Suggestion #1: It may be possible to fashion a general exception around the principle of an event of independent significance that determines IF an amount will be paid. For example, an employee (or former employee) will be entitled to $100 at the time the old oak tree falls, if and only if the old oak three falls before January 1, 2010. If the old oak tree does not fall before 2010, the employee will never be paid the $100.

The condition or event would have to be unrelated to the solvency of the employer; and beyond the control of the employee and the employee's family. (A dependent going to college would not count -- it would be in the control of the employee's family.)

For a practical example: an employee will be entitled to a bonus, the amount of which will be determined by a pre-determined formula, if and only if the employer completes an IPO (that is not a change of control) while the employee is still employed. (This is not unusual.)

Suggestion #2: A narrower exception for reimbursements also may be appropriate.

If the AMOUNT, but NOT THE TIME, of payment is dependent on an event of independent significance, and the payment is merely a reimbursement of an expense that does not result in an accretion to wealth, the payment should satisfy the specified time or fixed schedule rule.

This rule would apply only in a circumstance where if the contingent event did not occur in a year specified and fixed in advance, the taxpayer would never receive the payment. The taxpayer would have no ability to accelerate nor to defer receipt of the payment; and failure to receive the benefit in a particular year would not affect in any way the payments available in any other year. Secondly, the payment would reimburse the taxpayer only for expenses incurred in the specified year. Third, the payment could not result in receipt by the taxpayer of an asset with a life longer that one year.

The above rule would allow reimbursement of medical expenses and indemnities for liabilities incurred in the scope of employment duties. It would not allow reimbursement for purchasing a boat (wealth accretion -- an asset with a life over one year.)

In summary, there are a host of intractable problems in the employment contract area that don't seem to involve any of the potential for the abuse 409A seems concerned with that an exception for reimbursements along the lines suggested above would alleviate.