What nonprofits and governmental employers need to know about the proposed 457(f) regulations
Posted On: 10-3-2016 | Posted By: Debra Mathes, CPA
This summer, the Internal Revenue Service issued proposed regulations to update and provide clarifying guidance to Internal Revenue Code Section 457(f), which governs deferred compensation plans maintained by most tax-exempt and federal government entities. At the same time, proposed regulations under Section 409A were issued, which would also impact certain employment agreement provisions, severance arrangements and other similar compensation packages.
The long-awaited proposed Section 457 regulations are generally favorable to employers. They provide new rules for determining when deferred amounts are includible in gross income, how to calculate any includible income and specifically identify the type of plans that are not subject to the 457(f) rules. They provide guidance on some issues that were not addressed in the previous regulations and help distinguish the rules and interaction between Code sections 457(f) and 409A.
The proposed regulations can be relied upon immediately when making any changes to current plans, but become effective when the new regulations become final. This could be as early as January 1, 2017, if final regulations are published before year-end.
Key points included in the 457(f) proposed regulations
The proposed regulations:
- differentiate the definition of “substantial risk of forfeiture” used in Sections 457(f) and 409A;
- confirm that covenants not to compete (subject to conditions) may be used to create a substantial risk of forfeiture;
- specify that “short-term deferrals” are not subject to Section 457(f);
- allow for a “rolling risk of forfeiture” to be used to extend a substantial risk of forfeiture;
- provide an exception for “bona fide severance pay plans”;
- allow for a substantial risk of forfeiture to be applied to current compensation (elective deferrals);
- resolve some of the inconsistencies between the two Code sections by applying similar definitions and exceptions;
- provide rules for recurring part-year compensation for educational institutions; and
- clarify the rules on several technical points.
Time for a checkup
Now is a good time for tax-exempt employers to take a fresh look at their plans. It will be important for tax-exempt and governmental entities to carefully consider the application of the new regulations to their plans. Time should be spent reviewing existing employment contracts, deferred compensation arrangements, leave arrangements and incentive compensation plans to determine whether any new design features should be added or whether there are any potentially problematic areas. A timely review is required in light of these proposed regulations to give consideration to any plan design changes that would enhance the organization’s objectives.
WK advisors can explain these changes in more detail and help you review your plan design. Contact us at (573) 442-6171 or (573) 635-6196.