Executive Compensation

On January 5, 2010, the IRS issued Notice 2010-6, Relief and Guidance on Corrections of Certain Failures of a Nonqualified Deferred Compensation Plan to Comply with § 409A(a) (the "Notice").

Importantly, the Notice does much more than just offer correction methods.  It contains numerous examples of situations that the 409A final regulations do not clearly address – and provides for significant penalties for many plan provisions that a normal person might view as a foot fault.  Over the next couple of weeks, I will attempt to address of these provisions one at a time, and then talk about the correction procedures generally.

First, the good news:  the Notice expressly approves the form of "savings clause" or "catch all" that many of us have been using in our documents. 

The Notice contains the following example:

• Employee's employment agreement provides for payment of $100x upon Employee's "termination of employment."  The employment agreement does not define what events constitute a "termination of employment" and does not include a provision that the terms of the agreement must be interpreted in a manner consistent with 409A [emphasis added].  To date, employees of Employer with substantially similar plan provisions have never reduced their employment to part-time and have only been paid upon an event that constitutes a complete cessation of services to Employer with no anticipated return to providing services to Employer.  Consequently, there is no pattern or practice of paying amounts upon payment events that would not constitute separations from service under 409A, or not paying amounts upon payment events that would constitute separations from service.  There is no indication that the term was intentionally left vague. 
  
• On April 1, 2010, before any amendment of the employment agreement, Employee ceases providing services to Employer with no anticipated return and Employer determines that Employee has become entitled to the payment of $100x.  Employer pays Employee B the $100x on April 1, 2010.  

The Notice states that the plan provision providing for payment upon a "termination of employment" will not cause the employment agreement to fail to satisfy the document requirements of 409A to the extent the term is not interpreted to provide for payment under circumstances that would cause the employment agreement to fail to satisfy the requirements of 409A in operation.  The Notice also states that the Employer may amend agreement at any time to provide either (i) the plan provision must be interpreted to comply with the requirements of 409A, or (ii) an explicit definition of termination of employment that qualifies as a separation from service under 409A (provided that in either case the amendment may not have the effect of either expanding the definition to include as a payment event any event that was not a payment event under the plan before the amendment, or narrowing the definition to eliminate as a payment event any event that was a payment event under the plan before the amendment).  The payment of $100x on April 1, 2010, will not be an operational failure and will not result in the employment agreement being treated as failing to satisfy the requirements of 409A.

However, there are good "savings clauses" and bad "savings clauses."  Thankfully, the Notice permits Employers to add a saving clause now.  I don't want to give you legal advice, but as your friend, I STRONGLY URGE YOU TO REVIEW THIS POINT.