COMPENSATION AND BENEFITS TAX EXECUTIVE COMPENSATION EXECUTIVE COMPENSATION
COMPENSATION AND BENEFITS TAX: EXECUTIVE COMPENSATION
EXECUTIVE COMPENSATION I. R. C. § 162 THE FUNDAMENTALS 162(a): There shall be allowed as a deduction all the ordinary and necessary expenses incurred during the taxable year in carrying on any trade or business, including: 162(a)(1): a reasonable allowance for salaries or other compensation for personal services actually rendered
EXECUTIVE COMPENSATION I. R. C. § 162 WHAT IS REASONABLE COMPENSATION? The answer we solve for then is: The value of reasonable services is the amount that would ordinarily be paid for like services by like enterprises under like circumstances How to determine? Facts and Circumstances
EXECUTIVE COMPENSATION I. R. C. § 162 WHAT IS REASONABLE COMPENSATION? Example "reasonable compensation" factors from RTS Investment Corp. v. Comm'r, 877 F. 2 d 647 (8 th Cir. 1989): 1. The prevailing rates of compensation for comparable positions in comparable employers 2. Nature and scope of the employee's work 3. The employee's qualifications 4. Compensation paid in prior years 5. General economic conditions 6. Size and complexity of the employer's business
EXECUTIVE COMPENSATION I. R. C. § 162 WHAT IS REASONABLE COMPENSATION? I. R. C. § 162(m)(1): ØIn the case of any publicly held corporation, no deduction shall be allowed under this chapter for applicable employee remuneration with respect to any "covered employee" to the extent that the amount of such remuneration for the taxable year exceeds $1, 000. I. R. C. § 162(m)(3): Ø"Covered Employee" is CEO of public company or any officer whose compensation is required to be reported on the company's proxy because they are one of the four highest compensated officers
EXECUTIVE COMPENSATION I. R. C. § 162 BONUSES THE "HOWEVER" TO THE $1 MILLION CAP An employer may deduct a bonus if bonuses plus salaries do not exceed reasonable compensation 1)No deduction is allowed if the bonus is a disguised dividend - Compensation payments that are bonus-heavy and salary light - Bonuses that are paid in exact proportion to the employees' stockholdings - Bonuses that do not relate to specific or unusual duties performed by the employee – must relate to exceptional and outstanding job performance - Bonus is a "significant increase" from one year to the next - "Significant Increase" means a departure from the employer's usual annual bonus practices
EXECUTIVE COMPENSATION I. R. C. § 162 WHAT IS REASONABLE COMPENSATION? I. R. C. § 162(m)(4)(C): the $1 million cap does not include compensation that is performance-based. Applies if: I. Performance goals determined by compensation committee of the board of directors, which has 2 or more "outside directors" II. The terms of the "performance goals" are disclosed to shareholders and approved by a majority shareholder vote; and III. Before payment, comp committee verifies that performance goals met
EXECUTIVE COMPENSATION I. R. C. § 162 WHAT IS REASONABLE COMPENSATION? I. R. C. § 162(m)(4)(C): the $1 million cap does not include compensation that is performance-based. Applies if: I. Performance goals determined by compensation committee of the board of directors, which has 2 or more "outside directors" II. The terms of the "performance goals" are disclosed to shareholders and approved by a majority shareholder vote; and III. Before payment, comp committee verifies that performance goals met
EXECUTIVE COMPENSATION I. R. C. § 162 EXAMPLE OF 162(M) AND THE INTERPLAY WITH REASONABLE COMPENSATION? Example: In one year, Big Public Company pays its Executive $1, 200, 000; $600, 000 of which is base salary, and $600, 000 of which is Restricted Stock. Two outcomes: 1) If none of that $1, 200, 000 compensation is not performance-based, then the company will lose a deduction of $200, 000 because the compensation exceeded the $1, 000 cap on compensation 2) If > $200, 000 compensation is performance-based, then can take the whole deduction
EXECUTIVE COMPENSATION I. R. C. § 280 G "PARACHUTE PAYMENT" DEFINED I. R. C. § 280 G(b)(2)(A)(i): "Parachute Payment" means payment contingent on change in control if: I. There is a change in the ownership or effective control of the corporation, or II. There is a change in the ownership of a substantial portion of the assets of the corporation, AND III. The aggregate present value of the payment owed is equal to or exceeds an amount equal to three times the base amount
EXECUTIVE COMPENSATION I. R. C. § 280 G EXCESS PARACHUTE PAYMENTS 280 G denies a deduction for certain payments that are contingent on a change in control if those payments are "excess parachute payments. " "excess parachute payments" Payments in the nature of compensation Ex: Performance-based compensation, such as outstanding options, attributable to performance before the change in control is compensation, calculated as the amount earned subtracted from the accelerated value of the vested option, if ascertainable at the time of change in control
EXECUTIVE COMPENSATION I. R. C. § 280 G GOLDEN PARACHUTE PAYMENTS TO DISQUALIFIED INDIVIDUALS Reportable as on Form 1099 -MISC in Box 7 as Nonemployee Compensation A "disqualified individual" (i. e. , one who is not eligible to receive a "Golden Parachute Payment") is one who at any time during the 12 -month period prior to, and ending on, the date of the change in ownership or control was, (1) an employee or independent contractor, and (2) was (if in regard to a corporation) a shareholder, an officer, or a highly compensated individual of a small business corporation defined at § 1361(b)
EXECUTIVE COMPENSATION I. R. C. § 280 G GOLDEN PARACHUTE PAYMENTS TO DISQUALIFIED INDIVIDUALS Not "Disqualified Individual" if: i. ii. Immediately before the change in control, no stock in such corporation was readily tradable on an established securities market, and The payment was approved by a vote of persons who owned more than 75% of voting power of all outstanding stock
EXECUTIVE COMPENSATION I. R. C. § 409 A NON-QUALIFIED DEFERRED COMPENSATION PLANS
EXECUTIVE COMPENSATION I. R. C. § 409 A NON-QUALIFIED DEFERRED COMPENSATION PLANS - ELECTION RULES The election to defer compensation must be made by the last day of the tax year preceding the year in which services are performed, with the following exceptions: In an employee’s first year of plan eligibility, the election may be made as late as 30 days after the date the employee becomes eligible. For performance-based compensation, the election may be made as late as six months before the end of the performance period, but only if the performance period is at least 12 months in length.
EXECUTIVE COMPENSATION I. R. C. § 409 A NON-QUALIFIED DEFERRED COMPENSATION PLANS DISTRIBUTION RULES Distributions may not occur earlier than: Separation from service Disability Death A specified date or schedule of dates Change in ownership or effective control of employer, or in ownership of a substantial portion of employer’s assets Unforeseeable emergency
EXECUTIVE COMPENSATION I. R. C. § 409 A NON-QUALIFIED DEFERRED COMPENSATION PLANS - FUNDING RULES Offshore trusts or other arrangements are not permitted. Funding that is triggered by a change in the employer’s financial health is not permitted. Any funds set aside must remain available to creditors
EXECUTIVE COMPENSATION I. R. C. § 409 A NON-QUALIFIED DEFERRED COMPENSATION PLANS – FICA TAX RULES
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