[Federal Register Volume 61, Number 17 (Thursday, January 25, 1996)]
[Proposed Rules]
[Pages 2194-2214]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 96-715]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 31
[EE-142-87]
RIN 1545-AF97
FICA Taxation of Amounts Under Employee Benefit Plans
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Notice of proposed rulemaking.
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SUMMARY: This document contains proposed regulations under section
3121(v)(2) of the Internal Revenue Code of 1986, relating to when
amounts deferred under or paid from certain nonqualified deferred
compensation plans are taken into account as ``wages'' for purposes of
the employment taxes imposed by the Federal Insurance Contributions Act
(FICA). The regulations provide guidance to taxpayers who must comply
with section 3121(v)(2), which was added to the Code by section 324 of
the Social Security Amendments of 1983.
DATES: Written comments and requests for a public hearing must be
received by April 24, 1996.
ADDRESSES: Send submissions to: CC:DOM:CORP:R (EE-142-87), room 5228,
Internal Revenue Service, P.O. Box 7604, Ben Franklin Station,
Washington, DC 20044. In the alternative, submissions may be hand
delivered between the hours of 8 a.m. and 5 p.m. to: CC:DOM:CORP:R (EE-
142-87), Courier's Desk, Internal Revenue Service, 1111 Constitution
Avenue, NW, Washington, DC.
FOR FURTHER INFORMATION CONTACT: David N. Pardys, (202) 622-4606 (not a
toll-free number), concerning the regulations, and Michael Slaughter,
(202) 622-7190 (not a toll-free number), concerning submissions.
SUPPLEMENTARY INFORMATION:
Background
This document contains proposed amendments to the Employment Tax
Regulations (26 CFR part 31) under section 3121(v)(2) of the Internal
Revenue Code of 1986 (the ``Code'') relating to the employment tax
treatment of amounts deferred under or paid from certain nonqualified
deferred compensation plans. These amendments are proposed to reflect
the statutory changes made by section 324 of the Social Security
Amendments of 1983 (the ``1983 Amendments''), which added section
3121(v)(2) to the Code, and section 2662(f)(2) of the Deficit Reduction
Act of 1984 (DEFRA), which amended section 324 of the 1983 Amendments.
Explanation of Provisions
Sections 3101 and 3111 of the Code impose FICA tax on employees and
employers, respectively. FICA tax consists of the Old-Age, Survivors,
and Disability Insurance (OASDI) tax and the Hospital Insurance (HI)
tax, and generally is computed as a percentage of wages (as defined in
section 3121(a)) with respect to employment. Subject to specific
exceptions, section 3121(a) defines ``wages'' as all remuneration for
employment. Existing regulations (Sec. 31.3121(a)-2(a)) provide that
FICA tax is imposed at the time the remuneration is actually or
constructively paid.
Prior to the 1983 Amendments, benefits under a nonqualified
deferred compensation plan generally were wages subject to FICA tax at
the time they were actually or constructively paid, unless certain
retirement-related exclusions applied. These exceptions (former section
3121(a)(2)(A), (a)(3), and (a)(13)(A)(iii)) were repealed by the 1983
Amendments. Thus, under the 1983 Amendments, which generally apply to
remuneration paid after December 31, 1983, ``retirement'' payments are
no longer excluded from wages. Instead, the 1983 Amendments added
section 3121(v)(2), which provides a special timing rule for wages
(within the meaning of section 3121(a)) that constitute an amount
deferred under a nonqualified deferred compensation plan.\1\
\1\ The 1983 Amendments did not amend the definition of net
earnings from self-employment under section 1402(a) of the Code or
the timing of the tax on self-employment income under section 1401
of the Code. Accordingly, the special timing rule under section
3121(v)(2) does not apply to nonqualified deferred compensation that
constitutes net earnings from self-employment.
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Under section 3121(v)(2)(A), any ``amount deferred'' under a
nonqualified deferred compensation plan must be taken into account as
wages for FICA purposes as of the later of (1) when the services are
performed, or (2) when there is no substantial risk of forfeiture of
the rights to such amount. This special timing rule may result in
imposition of FICA tax before the benefit payments under the plan
begin, thus accelerating the imposition of FICA tax on benefits under a
nonqualified deferred compensation plan.
Section 3121(v)(2)(B) provides a special exclusion (the
``nonduplication rule'') that prevents double taxation. Once an amount
deferred under a nonqualified deferred compensation plan is ``taken
into account'' as wages under the special timing rule, the
nonduplication rule provides that neither that amount nor the ``income
attributable to that amount'' is again treated as FICA wages. Thus,
benefit payments under a nonqualified deferred compensation plan are
not subject to FICA tax when actually or constructively paid (i.e.,
under the general timing rule for wage inclusion) if the benefit
payments consist of amounts deferred under the plan that were
previously taken into account as FICA wages under the special timing
rule plus the attributable income.
[[Page 2195]]
Conversely, benefits under a nonqualified plan are subject to FICA
tax when actually or constructively paid to the extent the benefits
relate to an amount deferred that was not previously taken into account
under the special timing rule.
Section 3121(a)(1) imposes a dollar limit on the annual amount of
wages that is subject to the OASDI portion of FICA tax. Section 13207
of the Omnibus Budget Reconciliation Act of 1993 repealed the dollar
limit on annual wages subject to the HI portion of FICA tax, effective
for 1994 and later years.
Overview of Regulations
In contrast to most FICA wages, nonqualified deferred compensation
is subject to FICA tax not when paid, but earlier--generally when the
related services are performed. (FICA taxation is deferred if the
compensation is subject to a substantial risk of forfeiture.) A benefit
that was subject to FICA tax at this earlier date generally is not
subject to tax again when paid to the participant. Applying these
statutory rules often requires difficult valuations of future benefits.
Recognizing the practical administrative problems that can be
encountered by taxpayers in this area, the proposed regulations are
designed to be workable, to minimize complexity, and to provide
appropriate flexibility for taxpayers. For example, the regulations:
Permit use of any reasonable assumptions. For the purpose
of calculating the present value of a benefit earned in a given year
(an ``amount deferred'' under the statute), the regulations do not
prescribe specific actuarial assumptions or methods that must be used.
Instead, the regulations simply allow taxpayers to determine present
value using any reasonable actuarial assumptions and methods.
Establish a reasonably ascertainable rule. In some cases,
uncertainties pertaining to future benefits make it especially
difficult to determine the present value of a benefit (for example,
where a benefit can fluctuate depending on the varying amount of a
qualified plan benefit). In such cases, under the regulations, the
present value of the benefit need not be included in FICA wages
(``taken into account'') until it becomes reasonably ascertainable.
Provide flexibility with respect to withholding. The
regulations ease the administrative burdens of withholding by
permitting payors to delay the inclusion of any deferred compensation
in wages until the end of the year. In addition, where amounts deferred
cannot be readily calculated by year-end, the payor may either estimate
the amounts (and make later adjustments without interest or penalties)
or postpone the inclusion in wages until the first quarter of the
following year.
Provide reasonable, good faith transition relief. The
regulations provide transition relief for actions taken before the
effective date of the regulations based on a reasonable, good faith
interpretation of the statute.
Structure of the Regulations
The regulations generally consist of three parts. The first part of
the regulations, paragraphs (a) and (b), describes the special timing
rule and the related nonduplication rule of section 3121(v)(2), defines
a nonqualified deferred compensation plan, and specifies the types of
benefits that are subject to the special timing rule. The second part
of the regulations, paragraphs (c), (d), and (e), describes how the
special timing rule and the nonduplication rule operate. In the
remainder of the regulations, paragraph (f) provides withholding rules,
paragraph (g) contains the regulatory effective date and the transition
rules, and Sec. 31.3121(v)-2 sets forth the statutory effective dates.
The most significant items included in these regulations are
discussed below.
Definition of Nonqualified Deferred Compensation Plan
In general. Section 3121(v)(2)(C) of the Code defines a
``nonqualified deferred compensation plan'' as any plan or arrangement
established and maintained by an employer for one or more of its
employees that provides for the deferral of compensation, other than a
plan described in section 3121(a)(5) (such as qualified plans and
certain other plans and arrangements). The regulations provide that a
``nonqualified deferred compensation plan'' is a plan that is
``established'' by an employer for one or more of its employees, and
that provides for the ``deferral of compensation.'' A plan may
constitute a nonqualified deferred compensation plan under section
3121(v)(2), regardless of whether it is an employee benefit plan under
section 3(3) of the Employee Retirement Income Security Act of 1974, as
amended (ERISA), whether deferrals under the plan are made pursuant to
the employee's election, or whether the amounts deferred are treated as
deferred for income tax purposes.
Requirement that the plan be established. The regulations provide
that an amount deferred may not be taken into account as FICA wages
before the plan is established, and that a plan is considered
``established'' on the latest of the date on which the plan is adopted,
the date on which it is effective, or the date on which its material
terms are set forth in writing. Transition relief is provided for
unwritten plans that were adopted and effective before March 25, 1996.
Such a plan is treated as established with respect to an employee as of
the later of the date on which it was adopted or became effective,
provided that it is set forth in writing within six months after
publication of the final regulations.
Requirement that the plan provide for the deferral of compensation.
In general, the regulations specify that a plan provides for the
``deferral of compensation'' only if an employee has a legally binding
right to compensation that has not been actually or constructively
received and that is payable in a later year. However, the regulations
provide that there is no ``deferral of compensation'' merely because
compensation is paid after the last day of a calendar year pursuant to
the employer's customary payment scheme for compensation. Thus, if one
week of an employer's customary two-week payroll period falls in one
year and the second week of the period falls in the next year, the
compensation paid at the end of the two-week period on account of the
services rendered in the first week is not considered deferred
compensation and is not subject to the special timing rule.
The regulations also provide a rule of administrative convenience
for ``short-term'' deferrals. Under this rule, an employer may choose
to treat an amount that is deferred from one calendar year to a date
that is no more than a brief period of time after the end of that
calendar year as if it were subject to the general timing rule (i.e.,
treated as FICA wages when actually or constructively paid) instead of
the special timing rule.
Plans, arrangements, and benefits that do not provide for the
deferral of compensation. Consistent with the legislative history
relating to section 3121(v)(2), certain types of plans, arrangements,
and benefits are not covered by the special timing rule of section
3121(v)(2), even though they may be viewed in other contexts as
providing for the deferral of compensation.
The regulations provide that stock options, stock appreciation
rights (described in Revenue Ruling 80-300, 1980-2 C.B. 165), and
certain other stock-related rights do not provide for the deferral of
compensation for FICA tax purposes, even though there may be no amount
recognized for income tax
[[Page 2196]]
purposes until after the calendar year of grant. In contrast, the
regulations specify that a ``phantom'' stock plan that awards a right
to a fixed payment equal to the value of a specified number of shares
of employer stock may be treated as providing benefits that result from
the deferral of compensation for purposes of section 3121(v)(2). Such a
plan typically involves the employer's unfunded, unsecured promise to
pay compensation in the future that is measured by the value of a
specified number of shares of stock on the date of payment. A phantom
stock plan is a nonqualified deferred compensation plan under which the
earnings portion of the future compensation is based on the change in
the value of the employer's stock, rather than, for example, an equity
mutual fund or a specified rate of interest.
The regulations provide that certain welfare benefits, including
vacation benefits, sick leave, compensatory time, disability pay,
severance pay, and death benefits, do not result from the deferral of
compensation for FICA purposes. Neither section 3121(v) nor the
legislative history relating to section 3121(v) indicates that Congress
intended to modify the long- established FICA tax treatment of such
benefits.
Nothing in the regulations is intended to determine the amount or
the timing of an employer's deduction for contributions to any type of
welfare benefit plan, including a plan that provides severance
benefits. Similarly, although the regulations include a severance pay
plan under a heading titled ``certain welfare benefits,'' no inference
is intended that a severance plan is treated as a welfare benefit plan
under any other section of the Code.
The regulations provide that certain other payments are not subject
to the special timing rule of section 3121(v)(2). In describing the
Senate Finance Committee proposal on golden parachutes, the Conference
Report to DEFRA states that ``payments under golden parachute
contracts, like termination pay, are to be subject to FICA taxes when
paid.'' (Emphasis added.) Conf. Rpt. 98-861, p. 85. Consistent with
this legislative history, the regulations provide that excess golden
parachute payments and window benefits do not result from the deferral
of compensation and, thus, are not subject to the special timing rule.
Similarly, certain benefits established within 12 months prior to
an employee's termination of employment are treated as termination pay
that is not subject to the special timing rule. This provision is
intended to ensure that termination pay is subject to FICA tax when it
is paid, even where there is no explicit agreement to terminate
employment. The regulations provide that a benefit established within
12 months prior to an employee's termination of employment is treated
as termination pay only if the facts and circumstances indicate that
the benefit was provided in contemplation of the employee's impending
termination of employment.
Benefits established after termination of employment also do not
result from the deferral of compensation. In addition, there is no
deferral of compensation where the facts and circumstances indicate
that the compensation is paid for current services.
Determination of the Amount Deferred
The ``amount deferred'' under a nonqualified deferred compensation
plan for a period is the amount that must be taken into account as
wages for that period under the special timing rule of section
3121(v)(2)(A). Under the regulations, the manner in which the amount
deferred for a period is determined depends upon whether the
nonqualified deferred compensation plan is an account balance plan or a
nonaccount balance plan.
Account balance plans. The regulations provide that, if benefits
for an employee are provided under an account balance plan, the amount
deferred equals the principal amount credited to the employee's account
for the period, increased or decreased by any income attributable to
that amount through the date such amount is required to be taken into
account as FICA wages. For purposes of the regulations, a nonqualified
deferred compensation plan is an ``account balance plan'' only if,
under the terms of the plan, (1) principal amounts are credited to an
individual account for an employee, (2) the income attributable to the
principal amounts is credited (or debited) to the individual account,
and (3) the benefits payable to the employee are based solely on the
balance credited to the individual account.
Nonaccount balance plans. If a nonqualified deferred compensation
plan is not an account balance plan, the regulations provide that the
amount deferred for a period equals the present value of the additional
future payments to which the employee has obtained a legally binding
right during that period. For purposes of determining present value,
the regulations give employers the flexibility to use any reasonable
actuarial assumptions and methods.
``Taken Into Account'' Defined
An amount deferred is treated as ``taken into account'' when it is
included in computing the amount of FICA wages, but only if any
additional FICA tax for the year (including any interest and penalties
due if the payment is late) that results from the inclusion is actually
paid before the period of limitations is closed for the year. For years
before 1994, the amount deferred is treated as taken into account even
if its inclusion does not result in any additional FICA tax liability.
For example, if, in 1993, an employee participating in a nonqualified
deferred compensation plan had other wages that were at least equal to
the applicable OASDI and HI wage bases for 1993, the inclusion in wages
of an amount deferred would not have resulted in any additional FICA
tax liability for that year. Nonetheless, the amount deferred would
have been considered taken into account as wages for purposes of
section 3121(v)(2).
Nonduplication Rule
As noted above, under the nonduplication rule of section
3121(v)(2)(B), if an amount deferred is taken into account as wages
under the special timing rule, neither the amount deferred nor the
related income is included in FICA wages when benefits attributable to
that amount are paid.
If an amount deferred is not taken into account as wages under the
special timing rule, then benefits attributable to that amount are
required to be included as wages when actually or constructively paid
in accordance with the general timing rule. For this purpose, a Form W-
2 (Wage and Tax Statement) for an earlier (post-1993) year showing FICA
wages in excess of taxable income for the year and an explanation
showing that the payment is attributable to the excess could, for
example, be used by a taxpayer to demonstrate that the payment is
attributable to an amount deferred that was previously taken into
account as wages under the special timing rule. If a payment is
attributable to an amount deferred only a portion of which was
previously taken into account, the portion of the payment that is
excluded from wages pursuant to the nonduplication rule and the portion
that is included in wages under the general timing rule are generally
determined on a pro rata basis.
Income Attributable to an Amount Deferred
Account balance plans. In the case of an account balance plan, the
regulations
[[Page 2197]]
define ``income attributable to the amount taken into account'' as any
increase or decrease in the amount credited to an employee's account
that, under the terms of the plan, is attributable to an amount
previously taken into account, but only if the income is based on a
rate of return that does not exceed either (1) the actual rate of
return on a predetermined actual investment, or (2) if no predetermined
actual investment has been specified, a reasonable rate of interest. If
the rate of return credited under the plan is not reasonable, the
income attributable to the amount taken into account is limited to the
mid-term applicable federal rate (as defined in section 1274(d)) for
the first day of the calendar year (the ``AFR''). However, in the case
of a predetermined actual investment, if the actual rate of return on
that investment is lower than the AFR, the income attributable to the
amount taken into account is limited to the that actual rate of return.
Any excess of the income credited under the plan over the income
determined using the AFR (or the actual rate of return, if applicable)
is considered an additional amount deferred in the year credited, and
is required to be taken into account in that year under the special
timing rule.
Nonaccount balance plans. In the case of a nonaccount balance plan,
the regulations define the ``income attributable to the amount taken
into account'' as the increase, due solely to the passage of time, in
the present value of any future payments to which the employee has
obtained a legally binding right, determined using reasonable actuarial
assumptions and methods. Thus, if an amount deferred for a period is
determined using a reasonable interest rate and other reasonable
actuarial assumptions and methods, and that amount is taken into
account when required under the special timing rule, none of the future
payments attributable to that amount will be subject to FICA tax when
paid.
If any actuarial assumption or method is not reasonable, then the
income attributable to the amount taken into account is limited to the
income that would result from the application of the AFR and, if
applicable, the applicable mortality table under section 417(e) of the
Code, both determined as of January 1 of the calendar year in which the
amount was taken into account. If the present value of the future
benefit payments (determined using the AFR and the section 417(e)
mortality table) exceeds the amount taken into account plus
attributable income (as limited by using those same assumptions), a
portion of each benefit payment will be excluded from wages under the
nonduplication rule and a portion will be included in wages under the
general timing rule.
Time Amounts Deferred Are Taken Into Account
Under the special timing rule, an amount deferred is required to be
taken into account as FICA wages as of the later of when (1) the
services are performed or (2) the right to the amount deferred is no
longer subject to a substantial risk of forfeiture. However, the
regulations allow an amount deferred to be taken into account at a
later date if all or a portion of the amount deferred is not
``reasonably ascertainable'' until that later date. In addition,
consistent with Notice 94-96, 1994-2 C.B. 564, the regulations provide
that no amount deferred under a nonqualified deferred compensation plan
may be taken into account as FICA wages before the plan is established.
Services creating the right to an amount deferred. The regulations
provide that services creating the right to an amount deferred are
considered performed when, under the terms of the plan and the relevant
facts and circumstances, the employee has performed all of the services
necessary to obtain a legally binding right to the amount deferred,
disregarding any substantial risk of forfeiture.
Substantial risk of forfeiture. In accordance with the legislative
history relating to section 3121(v)(2), the regulations define a
substantial risk of forfeiture for purposes of the special timing rule
of section 3121(v)(2) in accordance with the principles of section 83.
Thus, in general, whether or not a substantial risk of forfeiture
exists will depend on the facts and circumstances. See Sec. 1.83-3(c)
of the regulations.
Amounts deferred that are not reasonably ascertainable. A number of
commentators have emphasized the problems that would arise if certain
amounts deferred were required to be taken into account while still
highly uncertain and subject to fluctuation. For example, under a
nonaccount balance plan, an amount deferred (and taken into account as
wages) for a year might decrease, or even be eliminated, in a later
year on account of changes in the limitations on contributions and
benefits imposed on qualified plans under section 401(a)(17) or 415,
the amount of an employee's future compensation, the date on which
payments commence, or the form of benefit elected by an employee. (The
possibility that benefits may decrease because of these contingencies
does not, however, generally cause the benefits to be subject to a
substantial risk of forfeiture within the meaning of section 83 or,
therefore, section 3121(v)(2).)
Because these types of contingencies generally cannot be predicted
with a high degree of certainty for an individual employee, the
regulations provide that an amount deferred under a nonaccount balance
plan is not required to be taken into account as wages until the
earliest date on which the amount deferred is reasonably ascertainable
(the ``resolution date''). An amount deferred is ``reasonably
ascertainable'' when there are no actuarial or other assumptions needed
to determine the amount deferred, other than interest, mortality, or
cost-of-living assumptions.
Thus, for example, if assumptions relating to qualified plan offset
variables, future pay, or the time or form of benefit payments are
needed to determine the amount deferred at the time the services are
performed (or, if applicable, when the benefit is no longer subject to
a substantial risk of forfeiture), the employer may choose to delay
taking the amount deferred into account until the only assumptions
needed to determine the amount deferred are those relating to interest,
mortality, and cost of living. An employer may choose to use this rule
for all of an amount deferred, even if only a portion of the amount
deferred is not reasonably ascertainable. For example, if the only
portion of an amount deferred that is not reasonably ascertainable is
an early retirement subsidy, no portion of the amount deferred is
required to be taken into account until the contingency relating to
early retirement has been resolved.
On the resolution date, the amount deferred and the related income
must be determined in accordance with the rules that generally apply to
determine those amounts under a nonaccount balance plan. The rules that
generally apply to determine whether an amount deferred is actually
taken into account as wages, and the consequences if it is not so taken
into account, also apply.
An employer may choose to take an amount into account on a date
(the ``early inclusion date'') that precedes the resolution date.
However, if the amount taken into account at the early inclusion date
(plus related income through the resolution date) is less than the
resolution date amount, then the employer must ``true up'' by taking
the balance of the resolution date amount into account as of the
resolution date. If the amount taken into account at the early
inclusion date (plus related income) exceeds the resolution date
[[Page 2198]]
amount, the taxpayer may claim a refund or credit, in accordance with
sections 6402 and 6413, for any overpayment of FICA tax in open years.
Rule of administrative convenience. The regulations provide that an
employer may treat an amount deferred as required to be taken into
account on a date that is later than, but within the same calendar year
as, the actual date on which the amount deferred is otherwise required
to be taken into account. Thus, for example, if an employee obtains a
legally binding right to an amount deferred mid-year, the employer may
take the amount deferred into account on any later date within the same
year (e.g., December 31).
Withholding
For purposes of withholding and depositing FICA tax, an amount
deferred under a nonqualified deferred compensation plan generally is
treated as wages paid by the employer and received by the employee at
the time it is taken into account under section 3121(v)(2) and these
regulations. However, in certain situations, the employer may be unable
to readily calculate the amount deferred for a year by December 31 of
that year. The regulations provide two alternative methods for
withholding and depositing FICA tax in these situations.
Under the ``estimated method,'' an employer may treat a reasonably
estimated amount as wages paid on the last day of the calendar year
(the ``first year''). If the employer underestimates the amount
deferred that should have been taken into account and, therefore,
deposits less FICA tax than the amount due, the employer may choose to
treat the shortfall as wages either in the first year or in the first
quarter of the next year. If the employer treats the shortfall as wages
in the first year and the shortfall was not included on the employee's
Form W-2, the employer must issue Form W-2c. In addition, the employer
must correct the information on the Form 941 for the last quarter of
the first year. In such a case, the shortfall will not be considered a
late deposit subject to penalty if it is deposited by the employer's
first regular deposit date following the first quarter of the next
year. Conversely, if the employer overestimates the amount deferred
that should have been taken into account as wages on the last day of
the year, the employer may claim a refund or credit in accordance with
sections 6402 and 6413.
Under the second alternative method, the ``lag method,'' an
employer may calculate the end-of-year amount deferred on any date in
the first quarter of the next calendar year. The amount deferred will
be treated as wages on that date, and the amount deferred that would
otherwise have been taken into account on the last day of the year must
be increased by income through the date on which the amount is taken
into account.
Effective Date of the Regulations
Proposed effective date. These regulations generally are proposed
to be effective for amounts deferred and benefits paid on or after
January 1, 1997.
Consistent with Notice 94-96, the regulations confirm that, in
determining FICA tax liability for amounts deferred and benefits paid
before the effective date of the regulations, an employer may rely on a
reasonable, good faith interpretation of section 3121(v)(2) (which, of
course, includes a determination in accordance with the regulations).
Thus, for any open year, an employer can choose to adjust its FICA tax
determination in a manner consistent with the regulations. For example,
if an employer took into account an amount deferred under a nonaccount
balance plan in 1994, but that amount was not reasonably ascertainable
within the meaning of these regulations, the employer may apply for a
refund or credit for any FICA tax paid on that amount in 1994 and,
instead, take the amount deferred into account when it becomes
reasonably ascertainable. In addition, consistent with Notice 94-96, an
employer's treatment of amounts deferred under a plan will not be
considered to be in accordance with a reasonable, good faith
interpretation of section 3121(v)(2) if the employer treats the amounts
as taken into account before the plan is established.
Transition rules. The regulations provide four transition rules,
which apply only if the taxpayer's determination of FICA tax treatment
was based on a reasonable, good faith interpretation of section
3121(v)(2).
Under the first transition rule, if a plan is not a nonqualified
deferred compensation plan under the regulations but was treated as
such by the employer before the effective date of the regulations, no
additional FICA tax will be owed on pre-effective date payments.
However, on or after the regulatory effective date, benefits actually
or constructively paid under the plan must be taken into account as
FICA wages under the general timing rule. If FICA tax was actually paid
on the amounts that were taken into account under section 3121(v)(2)
before the regulatory effective date, the employer may claim a refund
or credit for FICA tax paid for open years in accordance with sections
6402 and 6413, to the extent that the FICA tax paid exceeds the FICA
tax that would have been owed on benefit payments if those payments had
been subject to FICA tax when paid.
The second transition rule applies to a plan that is a nonqualified
deferred compensation plan under the regulations but that was not
treated as such before the regulatory effective date. Under this
transition relief, post-effective date benefit payments will not be
subject to FICA tax when paid if they are attributable to amounts that
would have been required to be taken into account under section
3121(v)(2)(A) in a year that is closed as of the regulatory effective
date. This rule does not apply to amounts deferred that are required to
be taken into account in years that are open as of the effective date.
Amounts deferred in those open years will be treated as having been
taken into account for purposes of applying the nonduplication rule to
post-effective date benefit payments only if actually taken into
account in accordance with these regulations.
The third transition rule provides relief where the pre-effective
date amount deferred under a nonaccount balance plan was determined in
accordance with a reasonable, good faith interpretation of section
3121(v)(2), but that amount was less than the amount deferred as
determined under these regulations. In this case, no additional FICA
tax will be owed for the pre- effective date period. In addition, when
applying the nonduplication rule to the post-effective date benefit
payments, the shortfall between the amount that was taken into account
in a year closed as of the regulatory effective date and the amount
that would have been required to be taken into account in that year
under the regulations will be treated as if it had actually been taken
into account under the special timing rule.
The fourth transition rule applies to a situation in which an
amount deferred was taken into account as FICA wages before the
regulatory effective date, but, under the regulations, that amount
deferred would have been taken into account on or after the effective
date. In this case, for periods after the effective date, the employer
must determine the amount deferred, and the time when the amount
deferred should be taken into account as wages, in accordance with the
regulations. However, the employer may claim a refund or credit, in
accordance with sections 6402 and 6413, for any overpayment of FICA tax
in open years.
[[Page 2199]]
Statutory Effective Date
Section 3121(v)(2) is generally effective for amounts deferred and
benefits paid after December 31, 1983. However, the 1983 Amendments
provide, in the case of an agreement in existence on March 24, 1983
between a nonqualified deferred compensation plan and an individual,
that the 1983 Amendments (and section 3121(v)(2)) apply only with
respect to services performed after 1983. Accordingly, amounts deferred
that relate to services performed before 1984 are subject to the
general timing rule and the definition of wages in section 3121(a) as
in effect on April 19, 1983 (including the retirement-related
exclusions), and are not subject to the special timing rule. DEFRA
amended the 1983 Amendments to provide further that amounts deferred
under an agreement adopted after March 24, 1983 (but before 1984) that
relate to pre-1984 services may, at the payor's election, be taken into
account as wages either when paid or in accordance with section
3121(v)(2).
The regulations provide guidance on these statutory effective dates
and rules for distinguishing benefits relating to pre-1984 services
from those relating to post-1983 services. In determining the portion
of total benefits that represents such pre-1984 benefits and the
portion of each pre-regulatory-effective-date benefit payment that
consists of such pre-1984 benefits, employers may use any reasonable
allocation method that is consistent with the terms of the plan.
Employers must treat payments made on or after the regulatory effective
date as consisting of pro-rata portions of pre-1984 and post-1983
benefits, unless such an allocation is inconsistent with the terms of
the plan.
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in EO 12866. Therefore,
a regulatory assessment is not required. It also has been determined
that section 553(b) of the Administrative Procedure Act (5 U.S.C.
chapter 5) and the Regulatory Flexibility Act (5 U.S.C. chapter 6) do
not apply to these regulations and, therefore, a Regulatory Flexibility
Analysis is not required. Pursuant to section 7805(f), this notice of
proposed rulemaking will be submitted to the Chief Counsel for Advocacy
of the Small Business Administration for comment on its impact on small
business.
Comments and Requests for a Public Hearing
Before these proposed regulations are adopted as final regulations,
consideration will be given to any written comments (a signed original
and eight (8) copies) that are submitted timely to the IRS. All
comments will be available for public inspection and copying. A public
hearing may be scheduled if requested in writing by a person that
timely submits written comments. If a public hearing is scheduled,
notice of the date, time, and place for the hearing will be published
in the Federal Register.
Drafting Information
The principal author of these regulations is David N. Pardys,
Office of the Associate Chief Counsel (Employee Benefits and Exempt
Organizations), IRS. However, other personnel from the IRS and Treasury
Department participated in their development.
List of Subjects in 26 CFR Part 31
Employment taxes, Income taxes, Penalties, Pensions, Railroad
retirement, Reporting and recordkeeping requirements, Social Security,
Unemployment tax, Withholding.
Proposed Amendments to the Regulations
Accordingly, 26 CFR part 31 is proposed to be amended as follows:
PART 31--EMPLOYMENT TAXES AND COLLECTION OF INCOME TAX AT SOURCE
Paragraph 1. The authority citation for part 31 continues to read
in part as follows:
Authority: 26 U.S.C. 7805 * * *
Par. 2. Sections 31.3121(v)(2)-1 and 31.3121(v)(2)-2 are added to
read as follows:
Sec. 31.3121(v)(2)-1 Treatment of amounts deferred under certain
nonqualified deferred compensation plans.
(a) Timing of wage inclusion--(1) General timing rule for wages.
Remuneration for employment that constitutes wages within the meaning
of section 3121(a) of the Internal Revenue Code generally is taken into
account for purposes of the Federal Insurance Contributions Act (FICA)
taxes imposed under sections 3101 and 3111 of the Internal Revenue Code
at the time the remuneration is actually or constructively paid. See
Sec. 31.3121(a)-2(a).
(2) Special timing rule for an amount deferred under a nonqualified
deferred compensation plan--(i) In general. To the extent that
remuneration deferred under a nonqualified deferred compensation plan
constitutes wages within the meaning of section 3121(a), the
remuneration is subject to the special timing rule described in this
paragraph (a)(2). Remuneration is considered deferred under a
nonqualified deferred compensation plan within the meaning of section
3121(v)(2) and this section only if it is provided pursuant to a plan
described in paragraph (b) of this section. The amount deferred under a
nonqualified deferred compensation plan is determined under paragraph
(c) of this section.
(ii) Special timing rule. Except as otherwise provided in this
section, an amount deferred under a nonqualified deferred compensation
plan is required to be taken into account as wages for FICA purposes as
of the later of--
(A) The date on which the services creating the right to that
amount are performed (within the meaning of paragraph (e)(2) of this
section); or
(B) The date on which the right to that amount is no longer subject
to a substantial risk of forfeiture (within the meaning of paragraph
(e)(3) of this section).
(iii) Inclusion in wages only once (nonduplication rule). Once an
amount deferred under a nonqualified deferred compensation plan is
taken into account (within the meaning of paragraph (d)(1) of this
section), then neither the amount taken into account nor the income
attributable to the amount taken into account (within the meaning of
paragraph (d)(2) of this section) is treated as wages for FICA purposes
at any time thereafter.
(iv) Benefits that do not result from a deferral of compensation.
If a nonqualified deferred compensation plan (within the meaning of
paragraph (b)(1) of this section) provides both a benefit that results
from the deferral of compensation (within the meaning of paragraph
(b)(3) of this section) and a benefit that does not result from the
deferral of compensation, the benefit that does not result from the
deferral of compensation is not subject to the special timing rule
described in this paragraph (a)(2).
(v) Remuneration that does not constitute wages. If remuneration
deferred under a nonqualified deferred compensation plan does not
constitute wages within the meaning of section 3121(a), then that
remuneration is not taken into account as wages for FICA purposes under
either the general timing rule described in paragraph (a)(1) of this
section or the special timing rule described in this paragraph (a)(2).
For
[[Page 2200]]
example, benefits under a death benefit plan described in section
3121(a)(13) of the Internal Revenue Code do not constitute wages for
FICA purposes. Therefore, these benefits are not included as wages
under the general timing rule described in paragraph (a)(1) of this
section or the special timing rule described in this paragraph (a)(2),
even if the death benefit plan would otherwise be considered a
nonqualified deferred compensation plan within the meaning of paragraph
(b)(1) of this section.
(b) Nonqualified deferred compensation plan--(1) In general--(i)
Defined. For purposes of this section, the term ``nonqualified deferred
compensation plan'' means any plan or other arrangement that is
established (within the meaning of paragraph (b)(2) of this section) by
an employer for one or more of its employees, and that provides for the
deferral of compensation (within the meaning of paragraph (b)(3) of
this section), other than a plan described in section 3121(a)(5). A
nonqualified deferred compensation plan may be adopted unilaterally by
the employer or may be negotiated between or agreed to by the employer
and one or more employees or employee representatives. A plan may
constitute a nonqualified deferred compensation plan under this section
without regard to whether the deferrals under the plan are made
pursuant to an election by the employee or whether the amounts deferred
are treated as deferred compensation for income tax purposes (e.g.,
whether the amounts are subject to the deduction rules of section 404).
In addition, a plan may constitute a nonqualified deferred compensation
plan under this section whether or not it is an employee benefit plan
under section 3(3) of the Employee Retirement Income Security Act of
1974, as amended.
(ii) Plan includes plan or other arrangement. For purposes of this
section, except where the context indicates otherwise, the term
``plan'' includes a plan or other arrangement.
(2) Plan establishment--(i) Date plan is established. For purposes
of this section, a plan is ``established'' on the latest of the date on
which it is adopted, the date on which it is effective, or the date on
which the material terms of the plan are set forth in writing. For
purposes of this section, a plan also will be deemed to be set forth in
writing if it is set forth in any other form that is approved by the
Commissioner. The material terms of the plan include the amount (or the
method or formula for determining the amount) of deferred compensation
to be provided under the plan and the time when it may or will be
provided.
(ii) Plan amendments. In the case of an amendment that increases
the amount deferred under a nonqualified deferred compensation plan,
the plan is not considered established with respect to the additional
amount deferred until the plan, as amended, satisfies the requirements
of paragraph (b)(2)(i) of this section.
(iii) Transition rule. For purposes of this section, an unwritten
plan that is adopted and effective before March 25, 1996 is treated as
established under this section as of the later of the date on which it
was adopted or became effective, provided that it is set forth in
writing not later than [Date that is six months after the date of
publication of final regulations in the Federal Register].
(3) Plan must provide for the deferral of compensation--(i)
Deferral of compensation defined. A plan provides for the ``deferral of
compensation'' with respect to an employee only if, under the terms of
the plan and the relevant facts and circumstances, the employee has a
legally binding right during a calendar year to compensation that has
not been actually or constructively received and that, pursuant to the
terms of the plan, is payable in a later year. An employee does not
have a legally binding right to compensation if that compensation may
be unilaterally reduced or eliminated by the employer. For this
purpose, compensation is not considered subject to unilateral reduction
or elimination merely because it may be reduced or eliminated by
operation of the objective terms of the plan, such as the application
of a provision creating a substantial risk of forfeiture (within the
meaning of section 83). Similarly, an employee does not fail to have a
legally binding right to compensation merely because the amount of
compensation is determined under a formula that provides for benefits
to be offset by benefits provided under a plan that is qualified under
section 401(a) of the Internal Revenue Code.
(ii) Compensation payable pursuant to the employer's customary
payment timing arrangement. There is no deferral of compensation
(within the meaning of this paragraph (b)(3)) merely because
compensation is paid after the last day of a calendar year pursuant to
the timing arrangement under which the employer ordinarily compensates
employees for services performed during a payroll period described in
section 3401(b).
(iii) Short-term deferrals. If, under a nonqualified deferred
compensation plan, there is a deferral of compensation (within the
meaning of this paragraph (b)(3)) that causes an amount to be deferred
from a calendar year to a date that is no more than a brief period of
time after the end of that calendar year, then, at the employer's
option, that amount may be treated as if it were not subject to the
special timing rule described in paragraph (a)(2) of this section. An
employer may apply this option only if the employer does so for all
employees covered by the plan and all substantially similar
nonqualified deferred compensation plans. For purposes of this
paragraph (b)(3)(iii), whether compensation is deferred to a date that
is not more than a ``brief period of time'' after the end of a calendar
year is determined in accordance with Sec. 1.404(b)-1T, Q&A-2, of this
chapter.
(4) Plans, arrangements, and benefits that do not provide for the
deferral of compensation--(i) In general. Notwithstanding paragraph
(b)(3)(i) of this section, an amount or benefit described in any of
paragraphs (b)(4)(ii) through (viii) of this section is not treated as
resulting from the deferral of compensation for purposes of section
3121(v)(2) and this section and, thus, is not subject to the special
timing rule of paragraph (a)(2) of this section.
(ii) Stock options, stock appreciation rights and other stock value
rights. Amounts received as a result of a stock option, or as a result
of a stock appreciation right or other stock value right, do not result
from the deferral of compensation for purposes of section 3121(v)(2).
For purposes of this paragraph (b)(4)(ii), a ``stock value right'' is a
right granted to an employee with respect to one or more shares of
employer stock that, to the extent exercised, entitles the employee to
a payment for each share of stock equal to the excess, or a percentage
of the excess, of the value of a share of the employer's stock on the
date of exercise over a specified price (greater than zero). Thus, for
example, the term ``stock value right'' does not include a phantom
stock or other arrangement under which an employee is awarded the right
to receive a fixed payment equal to the value of a specified number of
shares of employer stock.
(iii) Restricted property. If an employee receives property from,
or pursuant to a plan maintained by, an employer, there is no deferral
of compensation (within the meaning of section 3121(v)(2)) merely
because the value of the property is not includible in income (under
section 83) in the year of receipt by reason of the property being
nontransferable and subject to a substantial risk of forfeiture.
However, a
[[Page 2201]]
plan under which an employee obtains a legally binding right to receive
property (whether or not the property is restricted property) in the
future may provide for the deferral of compensation within the meaning
of paragraph (b)(3) of this section and, accordingly, may constitute a
nonqualified deferred compensation plan, even though benefits under the
plan are or may be paid in the form of property.
(iv) Certain welfare benefits. Vacation benefits, sick leave,
compensatory time, disability pay, severance pay, and death benefits do
not result from the deferral of compensation for purposes of section
3121(v)(2), even if those benefits constitute wages within the meaning
of section 3121(a). Benefits provided under a severance pay plan that
is not an employee pension benefit plan pursuant to 29 CFR 2510.3-2(b)
are considered ``severance pay'' for purposes of this paragraph
(b)(4)(iv). If a plan is an employee pension benefit plan pursuant to
29 CFR 2510.3-2(b), then whether benefits payable upon an employee's
termination of employment are considered severance pay for purposes of
this paragraph (b)(4)(iv) depends upon the relevant facts and
circumstances. Notwithstanding the preceding sentence, a plan that is
an employee pension benefit plan pursuant to 29 CFR 2510.3-2(b) is in
all cases considered to provide severance pay for purposes of this
paragraph (b)(4)(iv) if benefits payable under the plan upon an
employee's termination of employment are payable only if that
termination is involuntary.
(v) Certain benefits provided in connection with impending
termination--(A) In general. Benefits provided in connection with
impending termination of employment under paragraph (b)(4)(v)(B) or
(b)(4)(v)(C) of this section do not result from a deferral of
compensation within the meaning of section 3121(v)(2).
(B) Window benefits--(1) In general. For purposes of this paragraph
(b)(4)(v), a window benefit is provided in connection with impending
termination of employment. For this purpose, a ``window benefit'' is an
early retirement benefit, retirement-type subsidy, social security
supplement, or other form of benefit made available by an employer for
a limited period of time (no greater than one year) to employees who
terminate employment during that period or to employees who terminate
employment during that period under specified circumstances.
(2) Special rule for recurring window benefits. A benefit will not
be considered a window benefit if an employer establishes a pattern of
repeatedly providing for similar benefits in similar situations for
substantially consecutive, limited periods of time. Whether the
recurrence of these benefits constitutes a pattern of amendments is
determined based on the facts and circumstances. Although no one factor
is determinative, relevant factors include whether the benefits are on
account of a specific business event or condition, the degree to which
the benefits relate to the event or condition, and whether the event or
condition is temporary or discrete or is a permanent aspect of the
employer's business.
(C) Termination within 12 months of establishment of a benefit or
plan. For purposes of this paragraph (b)(4)(v), a benefit is provided
in connection with impending termination of employment, without regard
to whether it constitutes a window benefit, if--
(1) An employee's termination of employment occurs within 12 months
of the establishment of the benefit or the plan providing the benefit;
and
(2) The facts and circumstances indicate that the benefit or plan
is established in contemplation of the employee's impending termination
of employment.
(vi) Benefits established after termination of employment. Benefits
established with respect to an employee after the employee's
termination of employment do not result from a deferral of compensation
within the meaning of section 3121(v)(2).
(vii) Excess parachute payments. An excess parachute payment (as
defined in section 280G(b)) under an agreement entered into or renewed
after June 14, 1984, in taxable years ending after such date, does not
result from the deferral of compensation within the meaning of section
3121(v)(2). For this purpose, any contract entered into before June 15,
1984, that is amended after June 14, 1984 in any relevant significant
aspect, is treated as a contract entered into after June 14, 1984.
(viii) Compensation for current services. A plan does not provide
for the deferral of compensation within the meaning of section
3121(v)(2) if, based on the relevant facts and circumstances, the
compensation is paid for current services.
(5) Examples. This paragraph (b) may be illustrated by the
following examples:
Example 1. (i) In December of 1997, Employer M tells Employee A
that, if specified goals are satisfied for 1998, Employee A will
receive a bonus on July 1, 1999 equal to a specified percentage of
1998 compensation. Because Employee A meets the specified goals,
Employer M pays the bonus to Employee A on July 1, 1999, consistent
with its oral commitment.
(ii) This arrangement is not a nonqualified deferred
compensation plan under this section because its terms were not set
forth in writing and, therefore, it was not established in
accordance with paragraph (b)(2) of this section.
Example 2. (i) Employer N establishes a compensation arrangement
for Employee B in 1997. Before the beginning of 1998, Employee B and
Employer N enter into a legally binding salary reduction agreement
to defer a specified percentage of Employee B's salary that would
otherwise be payable in 1998. The amounts deferred remain a general
asset of Employer N, and are payable in 2008.
(ii) Employee B has a legally binding right during 1998 to an
amount of compensation that has not been actually or constructively
received and that, pursuant to the terms of the arrangement, is
payable in a later year. Therefore, the arrangement provides for the
deferral of compensation.
Example 3. (i) Employer O establishes a nonqualified deferred
compensation plan (within the meaning of paragraph (b)(1) of this
section) for Employee C in 1984. The plan is amended on January 1,
1999 to increase benefits, and the amendment provides that the
increase in benefits is on account of Employee C's performance of
services for Employer O from 1985 through 1998.
(ii) The additional benefits that resulted from the plan
amendment cannot be taken into account as amounts deferred for 1985
through 1998, even though the plan was established before then.
Pursuant to paragraphs (b)(2)(ii) and (e)(1) of this section, the
additional benefits cannot be taken into account before the latest
of the date on which the amendment is adopted, the date on which the
amendment is effective, or the date on which the plan, as amended,
is set forth in writing.
Example 4. (i) In 1997, Employer P, a state or local government,
establishes a plan for certain employees that provides for the
deferral of compensation and that is subject to section 457(a).
(ii) Paragraph (b)(1)(i) of this section provides that
``nonqualified deferred compensation plan'' means any plan that is
established by an employer and that provides for the deferral of
compensation, other than a plan described in section 3121(a)(5).
Section 3121(a)(5) lists, among other plans, an exempt governmental
deferred compensation plan as defined in section 3121(v)(3). Under
section 3121(v)(3)(A), this definition does not include any plan to
which section 457(a) applies. Thus, the plan established by Employer
P is not an exempt governmental deferred compensation plan described
in section 3121(v)(3) and, consequently, is not a plan described in
section 3121(a)(5). Accordingly, the plan is a nonqualified deferred
compensation plan within the meaning of section 3121(v)(2) and
paragraph (b)(1) of this section.
(iii) However, the general timing rule of paragraph (a)(1) of
this section and the special timing rule of paragraph (a)(2) of this
section apply only to remuneration for ``employment'' that
constitutes wages. Under
[[Page 2202]]
section 3121(b)(7), certain service performed in the employ of a state,
or any political subdivision of a state is not ``employment.'' Thus,
even though the plan is a nonqualified deferred compensation plan,
the extent to which section 3121(v)(2) applies to a participating
employee will depend on whether or not the service performed for
Employer P is excluded from the definition of employment under
section 3121(b)(7).
Example 5. (i) In 1997, Employer Q establishes a plan that
provides for bonuses to be paid to employees based on a specified
formula that takes into account the employees' performance for the
year. The bonus is not actually calculated until March 1 of the
following year, and is paid on March 15 of that following year.
(ii) The plan provides for the deferral of compensation because
the employees have a legally binding right, as of the last day of a
calendar year, to an amount of compensation that has not been
actually or constructively received and, pursuant to the terms of
the plan, that compensation is payable in a later year. However,
because the bonuses under the plan are paid within a brief period of
time after the end of the calendar year from which they are
deferred, Employer Q may choose, pursuant to paragraph (b)(3)(iii)
of this section, to treat the bonuses as if they are not subject to
the special timing rule of paragraph (a)(2)(ii) of this section.
Example 6. (i) Employer R establishes a plan under which bonuses
based on performance in one year may be paid on February 1 of the
following year at the discretion of the board of directors. The
board of directors meets in January of each year to determine the
amount, if any, of the bonuses to be paid based on performance in
the prior year.
(ii) Because an employee does not have a legally binding right
to a bonus until January of the year in which the bonus is paid, any
bonus paid under the plan in that year will not be considered
deferred from the preceding calendar year, and the plan will not be
treated as providing for the deferral of compensation within the
meaning of paragraph (b)(3)(i) of this section.
Example 7. (i) Employer S maintains a plan for employees that
provides nonqualified stock options described in Sec. 1.83-7(a) of
this chapter. Under the plan, employees are granted in 1997 the
option to acquire shares of employer stock at the fair market value
of the shares on the date of grant ($50 per share). The options can
be exercised at any time from the date of grant through 2006. The
options do not have a readily ascertainable fair market value for
purposes of section 83 at the date of grant, and shares issued upon
the exercise of the options are not subject to a substantial risk of
forfeiture within the meaning of section 83. In 2002, when the fair
market value of a share of employer stock is $100, Employee D
exercises an option to acquire 1,000 shares.
(ii) Under paragraph (b)(4)(ii) of this section, amounts
received as a result of a stock option do not result from the
deferral of compensation for purposes of section 3121(v)(2). Thus,
the $50,000 spread between the amount paid for the shares ($50,000)
and the fair market value of the shares on the date of exercise
($100,000) is taken into account as wages for FICA purposes in the
year of exercise.
(iii) If the options had been granted at $45 per share, $5 per
share below the fair market value on date of grant, the $55,000
spread between the amount paid for the shares ($45,000) and the fair
market value of the shares on the date of exercise ($100,000) would
similarly be taken into account as wages for FICA purposes in the
year of exercise.
Example 8. (i) Employer T establishes a ``phantom stock'' plan
for certain employees. Under the plan, an employee is credited on
the last day of each calendar year with a dollar amount equal to the
fair market value of 1,000 shares of employer stock. Upon
termination of employment for any reason, each employee is entitled
to receive the value, in cash or employer stock, of the shares with
which he or she has been credited.
(ii) Because compensation to which the employee has a legally
binding right as of the last day of one year is paid in a subsequent
year, the phantom stock plan provides for the deferral of
compensation. The phantom stock plan does not provide stock value
rights within the meaning of paragraph (b)(4)(ii) of this section
because it provides for awards equal in value to the full fair
market value of a specified number of shares of Employer T stock,
rather than the excess of that fair market value over a specified
price.
Example 9. (i) Employer U establishes a plan which provides for
payments solely upon an employee's dismissal from employment, death,
or disability. The amount of the payments to an employee is based on
the length of continuous active service with Employer U at the time
of dismissal, and is paid in monthly installments over a period of
three years.
(ii) Because benefits payable under the plan upon termination of
employment are payable only upon an employee's involuntary
termination, the plan is a severance pay plan within the meaning of
paragraph (b)(4)(iv) of this section. Thus, the benefits are not
treated as resulting from the deferral of compensation for purposes
of section 3121(v)(2).
Example 10. (i) On January 1, 1997, Employer V establishes a
plan that covers only Employee E, who owns a significant portion of
the business and who has 30 years of service as of that date. The
plan provides that, upon Employee E's termination of employment at
any time, he will receive $200,000 per year for each of the
immediately succeeding five years. Employee E terminates employment
on March 1, 1997.
(ii) Because Employee E terminates employment within 12 months
of the establishment of the plan and the facts and circumstances set
forth above indicate that the plan was established in contemplation
of impending termination of employment, the plan is considered to be
established in connection with impending termination within the
meaning of paragraph (b)(4)(v) of this section. Therefore, the
benefits provided under the plan are not treated as resulting from
the deferral of compensation for purposes of section 3121(v)(2).
Example 11. (i) Employer W establishes a plan on January 1, 1998
to supplement the qualified retirement benefits of recently hired
55-year- old Employee F who forfeited retirement benefits with her
former employer in order to accept employment with Employer W. The
plan provides that Employee F will receive $50,000 per year for life
beginning at age 65, regardless of when she terminates employment.
On April 15, 1998, Employee F unexpectedly terminates employment.
(ii) The facts and circumstances indicate that the plan was not
established in contemplation of impending termination. Thus, even
though Employee F terminated employment within 12 months of the
establishment of the plan, the plan is not considered to be
established in connection with impending termination within the
meaning of paragraph (b)(4)(v) of this section. Benefits provided
under the plan are treated as resulting from the deferral of
compensation for purposes of section 3121(v)(2).
Example 12. (i) Employer X establishes a plan to provide
supplemental retirement benefits to a group of management employees
who are at various stages of their careers. All employees covered by
the plan are subject to the same benefit formula. Employee G is
planning to (and actually does) retire within six months of the date
on which the plan is established.
(ii) Even though Employee G terminated employment within 12
months of the establishment of the plan, the plan is not considered
to have been established in connection with Employee G's impending
termination within the meaning of paragraph (b)(4)(v) of this
section because the facts and circumstances indicate otherwise.
Example 13. (i) Employee H owns 100 percent of Employer Y, a
corporation that provides consulting services. Substantially all of
Employer Y's revenue is derived as a result of the services
performed by Employee H. In each of 1997, 1998, and 1999, Employer Y
has gross receipts of $180,000 and expenses (other than salary) of
$80,000. In each of 1997 and 1998, Employer Y pays Employee H a
salary of $100,000 for services performed in each of those years. On
December 31, 1998, Employer Y establishes a plan to pay Employee H
$80,000 in 1999. The plan recites that the payment is in recognition
of prior services. In 1999, Employer Y pays Employee H a salary of
$20,000 and the $80,000 due under the plan.
(ii) The facts and circumstances described above indicate that
the $80,000 paid pursuant to the plan is based on services performed
by Employee H in 1999 and, thus, is paid for current services within
the meaning of paragraph (b)(4)(viii) of this section. Accordingly,
the plan does not provide for the deferral of compensation within
the meaning of section 3121(v)(2), and the $80,000 payment is
included as wages in 1999 under the general timing rule of paragraph
(a)(1) of this section.
(c) Determination of the amount deferred--(1) Account balance
plans--(i) General rule. For purposes of this section, if benefits for
an employee are
[[Page 2203]]
provided under a nonqualified deferred compensation plan that is an
account balance plan, the ``amount deferred'' for a period equals the
principal amount credited to the employee's account for the period,
increased or decreased by any income attributable to the principal
amount through the date the principal amount is required to be taken
into account as wages under paragraph (e) of this section. A
nonqualified deferred compensation plan is an account balance plan for
purposes of this section only if, under the terms of the plan, a
principal amount (or amounts) is credited to an individual account for
an employee, the income attributable to each principal amount is
credited (or debited) to the individual account, and the benefits
payable to the employee are based solely on the balance credited to the
individual account. A plan does not fail to be an account balance plan
merely because, under the terms of the plan, benefits payable to an
employee are based solely on a specified percentage of an account
maintained for all (or a portion of) plan participants, under which
principal amounts and income are credited (or debited) to such account.
(ii) Income defined. For purposes of this section, ``income'' means
any increase or decrease in the amount credited to an employee's
account that is attributable to amounts previously credited to the
employee's account, regardless of whether the plan denominates that
increase or decrease as income.
(2) Nonaccount balance plans--(i) General rule. For purposes of
this section, if benefits for an employee are provided under a
nonqualified deferred compensation plan that is not an account balance
plan (a ``nonaccount balance plan''), the ``amount deferred'' for a
period equals the present value of the additional future payment or
payments to which the employee has obtained a legally binding right (as
described in paragraph (b)(3)(i) of this section) under the plan during
that period.
(ii) Bifurcation permitted. An employer may treat a portion of a
nonaccount balance plan as a separate account balance plan if that
portion satisfies the requirements of paragraph (c)(1) of this section
and the amount payable to employees under that portion is determined
independently of the amount payable under the other portion of the
plan.
(iii) Present value defined. For purposes of this section,
``present value'' means the value as of a specified date of an amount
or series of amounts due thereafter, where each amount is multiplied by
the probability that the condition or conditions on which payment of
the amount is contingent will be satisfied, and is discounted according
to an assumed rate of interest to reflect the time value of money. For
purposes of this section, the present value must be determined as of
the date the amount deferred is required to be taken into account as
wages under paragraph (e)(1) of this section using actuarial
assumptions and methods that are reasonable as of that date. For this
purpose, a discount for pre-retirement mortality is permitted, but only
to the extent that benefits will be forfeited upon death. In addition,
the present value cannot be discounted for the risk that payments will
not be made (or will be reduced) because of the unfunded status of the
plan, the risk associated with any deemed or actual investment of
amounts deferred under the plan, the risk that the employer, the
trustee, or another party will be unwilling or unable to pay, the
possibility of future plan amendments, the possibility of a future
change in the law, or similar risks or contingencies.
(3) Separate determination for each period. The amount deferred
under this paragraph (c) is determined separately for each period for
which there is an amount deferred under the plan. In addition,
paragraphs (d) and (e) of this section are applied separately with
respect to the amount deferred for each such period. Thus, for example,
the fraction described in paragraph (d)(1)(ii)(A) of this section and
the resolution date amount described in paragraph (e)(4)(ii) of this
section are determined separately with respect to each amount deferred.
(4) Examples. This paragraph (c) may be illustrated by the
following examples:
Example 1. (i) Employer M establishes a nonqualified deferred
compensation plan for Employee A. Under the plan, 10 percent of
annual compensation is credited on behalf of Employee A on December
31 of each year. In addition, a reasonable rate of interest is
credited quarterly on the balance credited to Employee A as of the
last day of the preceding quarter. All amounts credited under the
plan are 100 percent vested, and the benefits payable to Employee A
are based solely on the balance credited to Employee A's account.
(ii) The plan is an account balance plan. Thus, pursuant to
paragraph (c)(1) of this section, the amount deferred for a calendar
year is equal to 10 percent of annual compensation.
Example 2. (i) Employer N establishes a nonqualified deferred
compensation plan for Employee B. Under the plan, 2.5 percent of
annual compensation is credited quarterly on behalf of Employee B.
In addition, a reasonable rate of interest is credited quarterly on
the balance credited to Employee B's account as of the last day of
the preceding quarter. All amounts credited under the plan are 100
percent vested, and the benefits payable to Employee B are based
solely on the balance credited to Employee B's account. As permitted
by paragraph (e)(5) of this section, any amount deferred under the
plan for the calendar year is taken into account as wages on the
last day of the year.
(ii) The plan is an account balance plan. Thus, pursuant to
paragraph (c)(1) of this section, the amount deferred for a calendar
year equals 10 percent of annual compensation (i.e., the sum of the
principal amounts credited to Employee B's account for the year)
plus the interest credited with respect to that 10 percent principal
amount through the last day of the calendar year. If Employer N had
not chosen to apply paragraph (e)(5) of this section and, thus, had
taken into account 2.5 percent of compensation quarterly, the
interest credited with respect to those quarterly amounts would not
have been treated as part of the amount deferred for the year.
Example 3. (i) Employer O establishes a nonqualified deferred
compensation plan for a group of employees. Under the plan, each
participating employee has a fully vested right to receive a life
annuity, payable monthly beginning at age 65, equal to the product
of (a) 2 percent for each year of service and (b) Employee C's
highest average annual compensation for a three-year period. The
plan also provides that, if Employee C dies before age 65, the
present value of the future payments will be paid to his or her
beneficiary. As permitted under paragraph (e)(5) of this section,
any amount deferred under the plan for a calendar year is taken into
account as FICA wages as of the last day of the year. As of December
31, 1998, Employee C has 25 years of service and high three-year
average compensation of $100,000 (the average for the years 1996-
98). As of December 31, 1999, Employee C is age 61, has 26 years of
service, and has high three-year average compensation of $104,000.
As of December 31, 2000, Employee C is age 62, has 27 years of
service, and has high three-year average compensation of $105,000.
The assumptions that Employer O uses to determine the amount
deferred for 1999 (a 7 percent interest rate and, for the period
after commencement of benefits, the GAM 83 (male) mortality table)
and for 2000 (a 7.5 percent interest rate and, for the period after
commencement of benefits, the GAM 83 (male) mortality table) are
assumed, solely for purposes of this example, to be reasonable
actuarial assumptions.
(ii) As of December 31, 1998, Employee C has a legally binding
right to receive lifetime payments of $50,000 (2 percent x 25 years
x $100,000) per year. As of December 31, 1999, Employee C has a
legally binding right to receive lifetime payments of $54,080 (2
percent x 26 years x $104,000) per year. Thus, during 1999, Employee
C has earned a legally binding right to additional lifetime payments
of $4,080 ($54,080-$50,000) per year beginning at age 65. The amount
deferred for 1999 is the present value, as of December 31, 1999, of
these additional payments, which is $27,426 ($4,080 x the
[[Page 2204]]
present value factor for a deferred annuity payable at age 65, using
the specified actuarial assumptions). Similarly, during 2000,
Employee C has earned a legally binding right to additional lifetime
payments of $2,620 (2 percent x 27 years x $105,000-$54,080) per
year beginning at age 65. The amount deferred for 2000 is the
present value, as of December 31, 2000, of these additional
payments, which is $18,149 ($2,620 x the present value factor for a
deferred annuity payable at age 65, using the specified actuarial
assumptions).
(d) Amounts taken into account and income attributable thereto--(1)
Taken into account--(i) Taken into account defined. For purposes of
this section, an amount deferred under a nonqualified deferred
compensation plan is ``taken into account'' as of the date it is
included in computing the amount of ``wages'' as defined in section
3121(a), but only to the extent that any additional FICA tax that
results from such inclusion (including any interest and penalties for
late payment) is actually paid no later than the expiration of the
applicable period of limitation for the year in which the amount
deferred was required to be taken into account under paragraph (e) of
this section. Because an amount deferred for a calendar year is
combined with the employee's other wages for the year for purposes of
computing FICA taxes with respect to the employee for the year, if the
employee has other wages that equal or exceed the wage base limitations
for the Old-Age, Survivors, and Disability Insurance (OASDI) or
Hospital Insurance (HI) portions of FICA for the year, no portion of
the amount deferred will actually result in additional OASDI or HI tax,
respectively. However, because there is no wage base limitation for the
HI portion of FICA for years after 1993, the entire amount deferred (in
addition to all other wages) is subject to the HI tax for the year and,
thus, will not be considered taken into account for purposes of this
section unless the HI tax relating to the amount deferred is actually
paid. In determining whether any additional FICA tax relating to the
amount deferred is actually paid, any FICA tax paid in a year is
treated as paid with respect to an amount deferred only after FICA tax
is paid on all other wages for the year.
(ii) Amounts not taken into account--(A) Failure to take an amount
deferred into account under the special timing rule. If an amount
deferred for a period (as determined under paragraph (c) of this
section) is not taken into account, then the nonduplication rule of
paragraph (a)(2)(iii) of this section does not apply, and benefits
attributable to that amount deferred are included as wages in
accordance with the general timing rule of paragraph (a)(1) of this
section. For example, if an amount deferred is required to be taken
into account in a particular year under paragraph (e) of this section,
but the employer fails to pay the additional FICA tax on that amount,
then the amount deferred and the income attributable to that amount
must be included as wages when actually or constructively paid.
(B) Failure to take a portion of an amount deferred into account
under the special timing rule. If only a portion of an amount deferred
(as determined under paragraph (c) of this section) is taken into
account, then a portion of each benefit payment attributable to that
amount deferred is excluded from wages pursuant to the nonduplication
rule of paragraph (a)(2)(iii) of this section and the balance is
subject to the general timing rule of paragraph (a)(1) of this section.
The portion that is excluded from wages is fixed when the attributable
benefits commence and is determined by multiplying each such payment by
a fraction, the numerator of which is the amount that was taken into
account (plus income attributable to that amount) and denominator of
which is the present value of the future benefit payments attributable
to the amount deferred. If the amount deferred was determined using
reasonable actuarial assumptions, the present value is determined using
those assumptions.
(2) Income attributable to the amount taken into account--(i)
Account balance plans. For purposes of the nonduplication rule of
paragraph (a)(2)(iii) of this section, in the case of an account
balance plan, the ``income attributable to the amount taken into
account'' means any amount credited on behalf of an employee under the
terms of the plan that is income (within the meaning of paragraph
(c)(1) of this section) attributable to an amount previously taken into
account (within the meaning of paragraph (d)(1) of this section), but
only if the income is based on a rate of return that does not exceed
either the actual rate of return on a predetermined actual investment
(whether or not assets associated with the plan or the employer are
actually invested therein) or, if no predetermined actual investment
has been specified for the period, a reasonable rate of interest. For
purposes of this paragraph (d)(2)(i), an actual investment includes an
investment identified by reference to any stock index with respect to
which there are positions traded on a national securities exchange
described in section 1256(g)(7)(A). The actual rate of return includes
any decrease as well as any increase in the value of the investment.
(ii) Nonaccount balance plans. For purposes of the nonduplication
rule of paragraph (a)(2)(iii) of this section, in the case of a
nonaccount balance plan, the ``income attributable to the amount taken
into account'' means the increase, due solely to the passage of time,
in the present value of the future payments to which the employee has
obtained a legally binding right, the present value of which
constituted the amount taken into account (determined as of the date
such amount was taken into account), but only if the amount taken into
account was determined using reasonable actuarial assumptions and
methods. Thus, each year there will be an increase (determined using
the same interest rate used to determine the amount taken into account)
resulting from the shortening of the discount period before the future
payments are made, plus, if applicable, an increase in the present
value resulting from the employee's survivorship during the current
year. As a result, if the amount deferred for a period is determined
using a reasonable interest rate and other reasonable actuarial
assumptions and methods, and the amount is taken into account when
required under paragraph (e) of this section, then, under the
nonduplication rule of paragraph (a)(2)(iii) of this section, none of
the future payments attributable to that amount will be subject to FICA
tax when paid.
(iii) Unreasonable rates of return--(A) Account balance plans. If,
under an account balance plan, the rate of interest credited is not
reasonable, as determined by the Commissioner, or the rate of return
credited otherwise exceeds the applicable limitation in paragraph
(d)(2)(i) of this section, then the income attributable to the amount
taken into account is limited to the income that would result from
application of the mid-term applicable federal rate (as defined
pursuant to section 1274(d)) for January 1 of the calendar year,
compounded annually (the ``AFR''). However, in the case of a
predetermined actual investment, if the actual rate of return on that
investment is lower than the AFR, then the income attributable to the
amount taken into account is limited to the income that would result
from application of that actual rate of return. Any excess of the
income credited under the plan over the income determined using the AFR
(or, if applicable, the actual rate of return) is considered an
additional amount deferred in the year the income is credited, and is
required to be taken into account under the special timing rule of
[[Page 2205]]
paragraph (a)(2) of this section. If the excess is not taken into
account as an additional amount deferred in the year credited, then,
pursuant to paragraph (d)(1)(ii) of this section, the excess and any
income attributable to the excess are subject to the general timing
rule of paragraph (a)(1) of this section.
(B) Nonaccount balance plans. If any actuarial assumption or method
used to determine the amount taken into account under a nonaccount
balance plan is not reasonable, as determined by the Commissioner, then
the income attributable to the amount taken into account is limited to
the income that would result from the application of the AFR and, if
applicable, the applicable mortality table under section
417(e)(3)(A)(ii)(I) (the ``417(e) mortality table''), both determined
as of the January 1 of the calendar year in which the amount was taken
into account. In addition, paragraph (d)(1)(ii)(B) of this section
applies and, in calculating the fraction described in that paragraph,
the numerator is the amount taken into account plus income (as limited
under this paragraph (d)(2)(iii)(B)), and the present value in the
denominator is determined using the AFR, the 417(e) mortality table,
and reasonable assumptions as to cost of living, each determined as of
the time the amount deferred was taken into account.
(3) Examples. This paragraph (d) may be illustrated by the
following examples:
Example 1. (i) In 1997, Employer M establishes a nonqualified
deferred compensation plan for Employee A under which all benefits
are 100 percent vested. In 1998, Employee A has $200,000 of current
annual compensation from Employer M that is subject to FICA tax. The
amount deferred under the plan on behalf of Employee A for 1998 is
$20,000. Thus, Employee A has total wages for FICA purposes of
$220,000. Because Employee A has other wages that exceed the OASDI
wage base for 1998, no additional OASDI tax is owed as a result of
the $20,000 amount deferred. Because there is no wage base
limitation for the HI portion of FICA, additional HI tax liability
results from the $20,000 amount deferred. However, Employer M fails
to pay the additional tax.
(ii) Under paragraph (d)(1)(i) of this section, an amount
deferred is considered taken into account as wages for FICA purposes
as of the date it is included in computing FICA wages, but only if
any additional FICA tax liability that results from inclusion of the
amount deferred is actually paid. Because the HI tax resulting from
the $20,000 amount deferred was not paid, that amount deferred was
not taken into account within the meaning of paragraph (d)(1) of
this section. Thus, pursuant to paragraph (d)(1)(ii) of this
section, benefits attributable to the $20,000 amount deferred will
be included as wages in accordance with the general timing rule of
paragraph (a)(1) of this section.
Example 2. (i) The facts are the same as in Example 1, except
that Employer M takes all actions necessary to correct its failure
to pay the additional tax before the applicable period of limitation
expires for 1998 (including payment of any applicable interest and
penalties).
(ii) Because the HI tax resulting from the $20,000 amount
deferred is paid, that amount deferred is considered taken into
account for 1998. Thus, in accordance with paragraph (a)(2)(iii) of
this section, neither the amount deferred nor the income
attributable to the amount taken into account will be treated as
wages for FICA purposes at any time thereafter.
Example 3. (i) Employer N establishes a nonqualified deferred
compensation plan under which all benefits are 100 percent vested.
Under the plan, an employee's account is credited with a
contribution equal to 10 percent of salary on December 31 of each
year. The employee's account balance also is increased each December
31 by ``interest'' on the total amounts credited to the executive's
account as of the preceding December 31. The interest rate specified
in the plan results in an increase that is not based on the return
on a predetermined actual investment within the meaning of paragraph
(d)(2)(i) of this section, and that is greater than the increase
that would result from application of a reasonable rate of interest
within the meaning of paragraph (d)(2)(i) of this section.
(ii) Pursuant to paragraph (d)(2)(iii)(A) of this section, the
excess over the AFR is considered an additional amount deferred in
the year credited and is required to be taken into account in the
year credited.
Example 4. (i) The facts are the same as in Example 3, except
that the annual increase is based on Moody's Average Corporate Bond
Yield.
(ii) Because this index reflects a reasonable rate of interest,
it is considered income attributable to the amount taken into
account within the meaning of paragraph (d)(2)(i) of this section.
Example 5. (i) The facts are the same as in Example 3, except
that the annual increase or decrease is equal to the greater of the
rate of return on a specified aggressive growth mutual fund or the
rate of return on a specified income-oriented mutual fund.
(ii) Because the increase or decrease is based on the greater of
the two investment returns and, thus, is not based on the actual
rate of return on either specific investment, the increase is not
based on the return on a predetermined actual investment within the
meaning of paragraph (d)(2)(i) of this section. Thus, if the
resulting increase exceeds the AFR, the excess is not considered
income attributable to the amount taken into account within the
meaning of paragraph (d)(2)(i) of this section and, pursuant to
paragraph (d)(2)(iii)(A) of this section, is considered an
additional amount deferred.
Example 6. (i) The facts are the same as in Example 5, except
that the annual increase or decrease with respect to 50 percent of
the employee's account is equal to the rate of return on a specified
aggressive growth mutual fund and the annual increase or decrease
with respect to the other 50 percent of the employee's account is
equal to the increase or decrease in the Standard & Poor's 500
Index.
(ii) Because the increase or decrease attributable to any
portion of the employee's account is based on the return on a
predetermined actual investment, the increase or decrease does not
exceed a reasonable rate of return within the meaning of paragraph
(d)(2)(i) of this section. Thus, the entire increase or decrease is
considered income attributable to the amount taken into account
within the meaning of paragraph (d)(2)(i) of this section.
Example 7. (i) The facts are the same as in Example 3, except
that, pursuant to the terms of the plan, before the beginning of
each year, the board of directors of Employer N designates a
specific investment on which the following year's annual increase or
decrease will be based. The board is authorized to switch
investments more frequently on a prospective basis. Before the
beginning of 1998, the board designates Company A stock as the
investment for 1998. Before the beginning of 1999, the board
designates Company B stock as the investment for 1999. At the end of
1999, the board determines that the return on Company B stock was
lower than expected and changes its designation for 1999 to a stock
that had a higher return during 1999.
(ii) The annual increase or decrease for 1998 is based on the
return of a predetermined actual investment. Although the annual
increase or decrease for 1999 is based on an actual investment, the
actual investment is not predetermined since it was designated after
its return was known. In addition, the increase or decrease for 1999
is greater than the actual rate of return on the actual investment
that was predetermined. Thus, pursuant to paragraph (d)(2)(iii)(A)
of this section, the income attributable to the amount taken into
account is limited to the AFR or, if lower, the actual rate of
return on the predetermined actual investment that was designated
for 1999.
Example 8. (i) Employer O establishes a nonqualified deferred
compensation plan for Employee B. Under the plan, if Employee B
survives until payment is to be made, he has a fully vested right to
receive a lump sum payment at age 65, equal to the product of (a) 10
percent per year of service and (b) Employee B's highest average
annual compensation for a three-year period. As permitted under
paragraph (e)(5) of this section, any amount deferred under the plan
for the calendar year is taken into account as wages as of the last
day of the year. As of December 31, 1998, Employee B has 25 years of
service and Employee B's high three-year average compensation is
$100,000 (the average for the years 1996-98). As of December 31,
1998, Employee B has a legally binding right to receive a payment at
age 65 of $250,000 (10 percent x 25 years x $100,000). As of
December 31, 1999, Employee B is age 63, has 26 years of service,
and has high three-year average compensation of $104,000. As of
December 31, 1999, Employer O has a legally binding right to receive
a payment at age 65 of $270,400 (10 percent x 26 years x
$104,000). Thus, during 1999, Employee B has earned
[[Page 2206]]
a legally binding right to an additional payment at age 65 of $20,400
($270,400-$250,000). The assumptions that Employer O uses to
determine the amount deferred for 1999 are a 7 percent interest rate
and the GAM 83 (male) mortality table, which, solely for purposes of
this example, are assumed to be reasonable actuarial assumptions.
The amount deferred for 1999 is the present value, as of December
31, 1999, of the $20,400 payment, which is $17,353. Employer O takes
this amount into account by including it in Employee B's FICA wages
for 1999 and paying the additional FICA tax.
(ii) Under paragraph (d)(2)(ii) of this section, the income
attributable to the amount that was taken into account is the
increase in the present value of the future payment due solely to
the passage of time, because the amount deferred was determined
using reasonable actuarial assumptions and methods. As of the
payment date at age 65, the present value of the future payments
earned during 1999 is $20,400. The entire difference between the
$20,400 and the $17,353 amount deferred ($3,047) is the increase in
the present value of the future payment due solely to the passage of
time, and thus falls within the definition of ``income attributable
to the amount taken into account.'' Because the amount deferred was
taken into account, the entire payment of $20,400 represents either
an amount deferred that was previously taken into account ($17,353)
or income attributable to that amount ($3,047). Accordingly,
pursuant to the nonduplication rule of paragraph (a)(2)(iii) of this
section, none of the payment is included in wages.
Example 9. (i) The facts are the same as in Example 8, except
that, instead of providing a lump sum equal to 10 percent of average
compensation per year of service, the plan provides Employee B with
a fully vested right to receive a life annuity, payable monthly
beginning at age 65, equal to the product of (a) 2 percent for each
year of service and (b) Employee B's highest average annual
compensation for a three-year period. The plan also provides that,
if Employee B dies before age 65, the present value of the future
payments will be paid to his or her beneficiary. As of December 31,
1998, Employee B has a legally binding right to receive lifetime
payments of $50,000 (2 percent x 25 years x $100,000) per year.
As of December 31, 1999, Employee B has a legally binding right to
receive lifetime payments of $54,080 (2 percent x 26 years x
$104,000) per year. Thus, during 1999, Employee B has earned a
legally binding right to additional lifetime payments of $4,080
($54,080-$50,000) per year beginning at age 65. The amount deferred
for 1999 is the present value, as of December 31, 1999, of these
additional payments, determined using reasonable actuarial
assumptions and methods. Employer O takes this amount into account
by including it in Employee B's FICA wages for 1999 and paying the
additional FICA tax.
(ii) Under paragraph (d)(2)(ii) of this section, the income
attributable to the amount that was taken into account is the
increase in the present value of the future payment due solely to
the passage of time, because the amount deferred was determined
using reasonable actuarial assumptions and methods. Because the
amount deferred was taken into account, the entire benefit stream of
$4,080 attributable to the amount deferred in 1999 represents either
an amount deferred that was previously taken into account or income
attributable to that amount. Accordingly, pursuant to the
nonduplication rule of paragraph (a)(2)(iii) of this section, none
of the payments are included in wages.
Example 10. (i) The facts are the same as in Example 9, except
that no amount is taken into account for 1999 because Employer O
fails to pay the additional FICA tax.
(ii) Under paragraph (d)(1)(ii)(A) of this section, if an amount
deferred for a period is not taken into account, then the benefits
attributable to that amount deferred are included as wages in
accordance with the general timing rule of paragraph (a)(1) of this
section. In this case, assuming that the amounts deferred in other
periods were taken into account, $4,080 of each year's total benefit
payment will be included in wages when paid.
Example 11. (i) Employer P establishes a nonqualified deferred
compensation plan on January 1, 1998 under which all benefits are
100 percent vested. The plan provides that amounts deferred will be
credited annually with interest beginning in 1999 at a rate that is
greater than a reasonable rate of interest. Pursuant to paragraph
(d)(2)(iii)(A) of this section, Employer P treats the excess over
the AFR as an additional amount deferred for 1999 and in each year
thereafter, and takes the additional amount into account by
including it in FICA wages and paying the additional FICA tax for
the year.
(ii) Consequently, in accordance with paragraph (a)(2)(iii) of
this section, the excess over the AFR and any income (at the AFR)
attributable to the excess will not be treated as wages for FICA
purposes in any subsequent year.
Example 12. (i) The facts are the same as in Example 11, except
that Employer P does not treat the excess over the AFR as an
additional amount deferred and, accordingly, does not take the
excess into account as FICA wages for 1999 and years thereafter.
(ii) Because this excess was not taken into account as an
additional amount deferred for 1999 and years thereafter, the excess
and any amount attributable to the excess are subject to the general
timing rule of paragraph (a)(1) of this section and will be included
as wages for FICA purposes when actually or constructively paid.
Example 13. (i) The facts are the same as in Example 8, except
that, in determining the amount deferred, Employer P uses a 15
percent interest rate, which, solely for purposes of this example,
is assumed not to be a reasonable interest rate. Employer P
determines that the amount deferred is the present value, as of
December 31, 1999, of this payment, which is $15,023. Employer P
includes this amount in wages and pays any resulting FICA tax.
Assume that the AFR as of January 1, 1999, is 7 percent.
(ii) Under paragraph (d)(2)(iii)(B) of this section, if any
actuarial assumption or method is not reasonable, then the income
attributable to the amount taken into account is limited to the
income that would result from application of the AFR and, if
applicable, the 417(e) mortality table. Because the 15 percent
interest rate is unreasonable, the income attributable to the amount
taken into account is limited to the income that would result from
using a 7 percent interest rate and, in this case, an increase for
survivorship using the 417(e) mortality table. Under these
assumptions, the income attributable to the $15,023 amount deferred
is $1,199 in the year 2000 and $1,313 in the year 2001. Under
paragraph (d)(1)(ii) of this section, the sum of these amounts
($17,535) is excluded from Employee B's wages pursuant to the
nonduplication rule of paragraph (a)(2)(iii) of this section, and
the balance of the payment ($2,865) is subject to the general timing
rule of paragraph (a)(1) of this section and, thus, is included in
Employee B's wages when actually or constructively paid.
(iii) The same result can be reached by multiplying the
attributable benefits by a fraction, the numerator of which is the
amount taken into account, and the denominator of which is the
amount deferred that would have been taken into account at the same
time had the amount deferred been calculated using the AFR, the
417(e) mortality table, and a reasonable assumption as to cost of
living. All three assumptions are determined as of January 1 of the
calendar year in which the amount was taken into account. In this
Example 13, the fraction would be $15,023 divided by $17,478, which
equals .85954. The $20,400 payment is multiplied by this fraction to
determine the amount of the payment that is excluded from wages
pursuant to the nonduplication rule of paragraph (a)(2)(iii) of this
section. Thus, $17,535 ($20,400 x .85954) is excluded from wages and
the balance ($2,865) is subject to FICA tax when actually or
constructively paid.
Example 14. (i) The facts are the same as Example 9, except that
Employer O calculates the amount deferred for 1999 as $18,252 and
takes that amount into account by including this amount in wages and
paying any resulting FICA tax. The assumptions that Employer O uses
to determine the amount deferred are a 15 percent interest rate and,
for the period after commencement of benefits, the GAM 83 (male)
mortality table. The 15 percent interest rate is assumed, solely for
purposes of this example, not to be a reasonable actuarial
assumption. Assume that the AFR as of January 1, 1999, is 7 percent
(ii) Under paragraph (d)(2)(iii)(B) of this section, if any
actuarial assumption or method used is not reasonable, then the
income attributable to the amount taken into account is limited to
the income that would result from application of the AFR and, if
applicable, the 417(e) mortality table. Because the 15 percent
interest rate is not reasonable, the income attributable to the
amount taken into account is equal to the income that would result
from using a 7 percent interest rate and the amount taken into
account is treated as if it represented a portion of the amount
deferred for purposes of applying paragraph (d)(1)(ii)(B) of this
section. Under these assumptions, the
[[Page 2207]]
income attributable to the $18,252 amount deferred is $1,278 in the
year 2000 and $1,367 in the year 2001. Under paragraph (d)(1)(ii)(B)
of this section, the portion of each of benefit payment attributable
to the amount deferred that is excluded from wages pursuant to the
nonduplication rule of paragraph (a)(2)(iii) of this section is
determined at benefit commencement by multiplying each benefit
payment by a fraction, the numerator of which is the amount taken
into account (plus income attributable to that amount) and the
denominator of which is the present value of future benefit payments
attributable to the amount deferred. Because the interest rate
assumption is not reasonable, not only is the income limited to the
application of the AFR, but the present value in the denominator
must be determined using the AFR and (if applicable) the 417(e)
mortality table. In this case, the present value is $40,283 and thus
the fraction is $20,897/$40,283, or .51875. Thus, $2,116 (.51875 x
$4,080) of each year's benefit payment is excluded from wages and
the balance of each year's payment ($1,964) is subject to the
general timing rule of paragraph (a)(1) of this section and is
included in wages when actually or constructively paid.
(iii) The same result can be reached by multiplying the
attributable benefits by a fraction the numerator of which is the
amount taken into account, and the denominator of which is the
amount deferred that would have been taken into account at the same
time had the amount deferred been calculated using the AFR, the
417(e) mortality table, and a reasonable assumption as to cost of
living. All three assumptions are determined as of January 1 of the
calendar year in which the amount was taken into account. In this
Example 14, the fraction would be $18,252 divided by $35,165, which
equals .51875. The $4,080 annual payment is multiplied by this
fraction to determine the amount of the payment that is excluded
from wages pursuant to the nonduplication rule of paragraph
(a)(2)(iii) of this section. Thus, $2,116 ($4,080 x .51875) is
excluded from wages and the balance ($1,964) is subject to FICA tax
when actually or constructively paid.
(e) Time amounts deferred are taken into account--(1) In general.
Except as otherwise provided in this paragraph (e), an amount deferred
under a nonqualified deferred compensation plan must be taken into
account as wages for FICA purposes as of the later of the date on which
services creating the right to the amount deferred are performed
(within the meaning of paragraph (e)(2) of this section), or the date
on which the right to the amount deferred is no longer subject to a
substantial risk of forfeiture (within the meaning of paragraph (e)(3)
of this section). However, in no event may any amount deferred under a
nonqualified deferred compensation plan be taken into account as wages
for FICA purposes prior to the establishment of the plan providing for
the amount deferred (or, if later, the plan amendment providing for the
amount deferred). Therefore, if an amount is deferred pursuant to the
terms of a legally binding agreement that is not put in writing until
after the amount would otherwise be taken into account under this
paragraph (e)(1), the amount deferred (including any attributable
income) must be taken into account as wages for FICA purposes as of the
date the plan is put in writing.
(2) Services creating the right to an amount deferred. For purposes
of this section, services creating the right to an amount deferred
under a nonqualified deferred compensation plan are considered to be
performed as of the date on which, under the terms of the plan and all
the facts and circumstances, the employee has performed all of the
services necessary to obtain a legally binding right (as described in
paragraph (b)(3)(i) of this section) to the amount deferred.
(3) Substantial risk of forfeiture. For purposes of this section,
the determination of whether a substantial risk of forfeiture exists
must be made in accordance with the principles of section 83 and the
regulations thereunder.
(4) Amount deferred that is not reasonably ascertainable under a
nonaccount balance plan--(i) In general. Notwithstanding any other
provision of this paragraph (e), an amount deferred under a nonaccount
balance plan is not required to be taken into account as wages under
the special timing rule of paragraph (a)(2) of this section until the
first date on which all of the amount deferred is reasonably
ascertainable (the ``resolution date''). In this case, the amount
deferred, determined as of the resolution date in accordance with
paragraph (c)(2) of this section (the ``resolution date amount''), must
be taken into account as of the resolution date. For purposes of this
paragraph (e)(4), an amount deferred is considered reasonably
ascertainable on the first date on which the only actuarial or other
assumptions regarding future events or circumstances needed to
determine the amount deferred are interest, mortality, and cost-of-
living assumptions. If these assumptions are the only assumptions
regarding future events or circumstances that are needed to determine
the amount deferred as of a particular date, then the amount deferred
will not fail to be reasonably ascertainable merely because the exact
amount deferred cannot be readily calculated as of that date.
(ii) Earlier inclusion permitted--(A) In general. With respect to
an amount deferred that is not reasonably ascertainable, an employer
may choose to take an amount into account at a date (the ``early
inclusion date'') before the resolution date (but not before the date
otherwise described in paragraph (e)(1) of this section). If the amount
taken into account at the early inclusion date with respect to an
amount deferred for a period (plus income attributable to the amount
taken into account through the resolution date) is less than the
resolution date amount for that period, then the balance of the
resolution date amount must be taken into account as of the resolution
date. For purposes of determining the income attributable to an amount
taken into account as of an early inclusion date, the employer must use
an interest rate and, if applicable, a mortality assumption that would
have been reasonable as of the early inclusion date.
(B) Treatment of benefits paid before the resolution date. If a
benefit payment is attributable to an amount deferred that is not
reasonably ascertainable at the time of payment, and the employer has
previously taken an amount into account with respect to the amount
deferred, then, in lieu of the pro rata rule provided in paragraph
(d)(1)(ii)(B) of this section, a first-in-first-out rule applies in
determining the portion of the payment attributable to the amount taken
into account. Under this first-in-first-out rule, the benefit payment
is included as wages under the general timing rule of paragraph (a)(1)
of this section only to the extent that it exceeds the amount
previously taken into account plus income attributable to that amount.
However, in determining the additional amount that must be taken into
account on the resolution date (under paragraph (e)(4)(ii)(A) of this
section), to the extent benefit payments were not included as wages
when paid pursuant to the preceding sentence, those payments (plus
income attributable to those payments) must be added to the resolution
date amount. For purposes of determining the income attributable to
such payments, the employer must use an interest rate and, if
applicable, a mortality assumption that would have been reasonable as
of the early inclusion date.
(5) Rule of administrative convenience. For purposes of this
section, an employer may treat an amount deferred as required to be
taken into account under this paragraph (e) on any date that is later
than, but within the same calendar year as, the actual date on which an
amount deferred is otherwise required to be taken into account under
this paragraph (e). For example, if services creating the right to an
amount deferred are considered performed under paragraph (e)(2) of this
[[Page 2208]]
section periodically throughout a year, the employer may nevertheless
treat the services creating the right to that amount deferred as
performed on December 31 of that year.
(6) Portions of an amount deferred required to be taken into
account in more than one year. If different portions of an amount
deferred are required to be taken into account under paragraph (e)(1)
of this section in more than one year (e.g., on account of a graded
vesting schedule), then each such portion is considered a separate
amount deferred for purposes of this section.
(7) Examples. This paragraph (e) may be illustrated by the
following examples:
Example 1. (i) Employer M establishes a nonqualified deferred
compensation plan for Employee A on November 1, 1996. Under the
plan, which is an account balance plan, Employee A obtains a legally
binding right on the last day of each calendar year (if Employee A
is employed on that date) to be credited with a principal amount
equal to 5 percent of compensation for the year. In addition, a
reasonable rate of interest is credited quarterly. Employee A's
account balance is nonforfeitable and is payable upon Employee A's
termination of employment. For 1997, the principal amount credited
to Employee A under the plan (which, in this case, is also the
amount deferred within the meaning of paragraph (c) of this section)
is $25,000.
(ii) Under paragraph (e)(2) of this section, the services
creating the right to the $25,000 amount deferred are considered
performed as of December 31, 1997, the date on which Employee A has
performed all of the services necessary to obtain a legally binding
right to the amount deferred. Thus, in accordance with paragraph
(e)(1) of this section, the $25,000 amount deferred must be taken
into account as of December 31, 1997, which is the later of the date
on which services creating the right to the amount deferred are
performed, or the date on which the right to the amount deferred is
no longer subject to a substantial risk of forfeiture.
Example 2. (i) The facts are the same as in Example 1, except
that the principal amount credited under the plan on the last day of
each year (and the attributable interest) is forfeited if the
employee terminates employment within five years of that date.
(ii) Under paragraph (e)(3) of this section, the determination
of whether the right to an amount deferred is subject to a
substantial risk of forfeiture is made in accordance with the
principles of section 83. Under Sec. 1.83-3(c) of this chapter, a
substantial risk of forfeiture generally exists where rights in
property that are transferred are conditioned, directly or
indirectly, upon the future performance of substantial services.
Because Employee A's right to receive the $25,000 principal amount
(and attributable interest) is conditioned on the performance of
services for five years, a substantial risk of forfeiture exists
with respect to that amount deferred until December 31, 2002.
(iii) December 31, 2002 is the later of the date on which
services creating the right to the amount deferred are performed, or
the date on which the right to the amount deferred is no longer
subject to a substantial risk of forfeiture. Thus, in accordance
with paragraph (e)(1) of this section, the amount deferred (which
(pursuant to paragraph (c)(1) of this section) is equal to the
$25,000 principal amount credited to Employee A's account on
December 31, 1997, plus the interest credited with respect to that
principal amount through December 31, 2002) must be taken into
account as of December 31, 2002.
Example 3. (i) The facts are the same as in Example 2, except
that the principal amount credited under the plan on the last day of
each year (and the attributable interest) becomes nonforfeitable
according to a graded vesting schedule under which 20 percent is
vested as of December 31, 1998; 40 percent is vested as of December
31, 1999; 60 percent is vested as of December 31, 2000; 80 percent
is vested as of December 31, 2001; and 100 percent is vested as of
December 31, 2002. Because these dates are later than the date on
which the services creating the right to the amount deferred are
considered performed (December 31, 1997), the amount deferred is
required to be taken into account as of these dates that fall in
five different years.
(ii) Paragraph (e)(6) of this section provides that, if
different portions of an amount deferred are required to be taken
into account under paragraph (e)(1) of this section in more than one
year, then each such portion is considered a separate amount
deferred for purposes of this section. Thus, $5,000 of the principal
amount, plus interest credited through December 31, 1998, is taken
into account as an amount deferred on December 31, 1998; $5,000 of
the principal amount, plus interest credited through December 31,
1999, is taken into account as a separate amount deferred on
December 31, 1999; etc.
Example 4. (i) In 1997, Employer N establishes a nonqualified
deferred compensation plan under which all benefits are 100 percent
vested. The plan provides for Employee B (who is age 45) to receive
a lump sum benefit of $500,000 at age 65. This benefit will be
forfeited if Employee B dies before age 65.
(ii) Because the only assumptions needed to determine the amount
deferred are interest and mortality, the amount deferred is
reasonably ascertainable within the meaning of paragraph (e)(4)(i)
of this section.
Example 5. (i) The facts are the same as in Example 4, except
that the $500,000 is payable to Employee B at the later of age 55 or
termination of employment.
(ii) Because the present value of the future benefit is
contingent on when Employee B terminates employment, the
determination of the amount deferred requires the use of assumptions
other than interest, mortality, and cost-of-living assumptions.
Thus, the amount deferred is not reasonably ascertainable within the
meaning of paragraph (e)(4)(i) of this section.
Example 6. (i) The facts are the same as in Example 4, except
that Employee B may elect to take the benefit in the form of a life
annuity of $50,000 per year (commencing at age 65) with a present
value that is different than the amount payable under the lump sum
option.
(ii) Because the present value of the future benefit is
contingent on the form of benefit elected by Employee B, the
determination of the amount deferred requires the use of assumptions
other than interest, mortality, and cost-of-living assumptions.
Thus, the amount deferred is not reasonably ascertainable within the
meaning of paragraph (e)(4)(i) of this section.
Example 7. (i) Employer O establishes a nonqualified deferred
compensation plan. The plan is a supplemental executive retirement
plan (SERP) that provides Employee C with a fully vested right to
receive a pension, in the form of a straight life annuity payable
monthly, beginning at age 65, equal to the excess of (a) 3 percent
of Employee C's final three-year average pay for each year of
participation up to 15 years, over (b) the amount payable to
Employee C from Employer O's qualified pension plan. The amount
payable under the qualified pension plan is equal to 1.5 percent of
final three-year average pay for each year of employment, excluding
pay in excess of the section 401(a)(17) compensation limit. Employee
C becomes a participant in the SERP on January 1, 2001, at age 44.
As permitted by paragraph (e)(5) of this section, any amount
deferred under the SERP for the calendar year is taken into account
as wages as of the last day of the year. However, the amount
deferred under the SERP for any year is not reasonably ascertainable
prior to termination of employment because the determination of such
amount requires assumptions other than interest, mortality, and
cost-of-living (e.g., an assumption as to Employee C's average pay
for the final three years of employment). As permitted by paragraph
(e)(4)(i) of this section, Employer O chooses not to take any amount
into account for any year before the resolution date. Employee C
terminates employment on December 31, 2018.
(ii) As of the date Employee C terminates employment, the only
actuarial or other assumptions needed to determine the amount
deferred is an interest rate and mortality assumption. At that time,
the amount deferred in each past year becomes reasonably
ascertainable, and Employer O is able to determine that during 2001
Employee C earned a legally binding right to a life annuity of
$4,000 per year. Employer O determines the present value of Employee
C's future benefit payments under the SERP as of this resolution
date (December 31, 2018), using an 7 percent interest rate and the
UP-84 mortality table, which, solely for purposes of this example,
are assumed to be reasonable actuarial assumptions for the year
2018. The resulting present value, $26,950, is taken into account in
accordance with paragraph (d)(1) of this section.
Example 8. (i) The facts are the same as in Example 7, except
that, as permitted under paragraph (e)(4)(ii) of this section,
Employer O chooses to take an amount into account before the amount
deferred for each year is reasonably ascertainable. For the year
2001, Employer O chooses to assume that Employee C has earned a
legally binding
[[Page 2209]]
right to a benefit of $1,000 per year from the SERP. Employer O
determines the present value of this benefit stream using an 8
percent interest rate and the UP-84 mortality table, which, solely
for purposes of this example, are assumed to be reasonable actuarial
assumptions for the year 2001. The resulting present value, $1,853,
is taken into account for 2001. Employer O does not take any other
amount into account before the resolution date.
(ii) In accordance with paragraph (e)(4)(ii)(B) of this section,
Employer O determines the additional amount required to be taken
into in the year 2008 to be $20,212 (the excess of $26,950 present
value of the stream of benefit payments to which Employee C obtained
a legally binding right during 2001, determined as of the resolution
date, over $6,738 (which is the sum of the $1,853 that was taken
into account for 2001, and $4,885 in income attributable to that
amount through the resolution date)).
Example 9. (i) The facts are the same as in Example 8, except
that Employer O determines that Employee C actually had obtained a
legally binding right in 2001 to payments under the SERP that have a
present value at the 2018 resolution date of $6,000.
(ii) No additional amount is required to be taken into account
as of the resolution date. Employer O may claim a refund or credit
for the overpayment of FICA tax with respect to amounts taken into
account prior to the resolution date to the extent permitted by
sections 6402 and 6413.
Example 10. (i) In 1997, Employer P establishes a nonqualified
deferred compensation plan for Employee D. The plan provides that,
in consideration of Employee D's services to be performed on Project
X in 1998, Employee D will receive 1 percent per year of Employer
P's net profits associated with Project X for each of the
immediately succeeding three years. The 1 percent amount payable for
net profits each year will be paid on March 31 of the immediately
succeeding year. One percent of net profits associated with Project
X is $750,000 in 1999, $400,000 in 2000, and $90,000 in 2001.
(ii) Because the services creating the right to all or the
amount deferred are performed in 1998, the benefit payments based on
the 1999, 2000, and 2001 net profits are all attributable to the
amount deferred in 1998. However, because the present value of D's
future benefit is contingent on future profits, the determination of
the amount deferred requires the use of assumptions other than
interest, mortality, and cost-of-living. Thus, the amount deferred
in 1998 will not be reasonably ascertainable within the meaning of
paragraph (e)(4)(i) of this section until December 31, 2001 (which
is the resolution date). Employer P does not choose to take any
amount into account prior to the amount deferred becoming reasonably
ascertainable.
(iii) Paragraph (d)(1)(ii) of this section provides that a
benefit attributable to an amount deferred under a nonqualified
deferred compensation plan must be included as wages when actually
or constructively paid if it is so paid before the amount deferred
has been taken into account as wages under the special timing rule
of paragraph (a)(2)(ii) of this section. Thus, the benefit payments
in 2000 and 2001(on account of 1999 and 2000 net profits) must be
included as wages when paid.
(iv) As of December 31, 2001, the amount deferred under the plan
becomes reasonably ascertainable. This is because the $90,000 future
benefit payment is a knowable quantity, albeit not readily
calculable, and the only assumption needed to determine the present
value of the future benefits is interest. Thus, the present value of
the payment to be made in 2002 is required to be taken into account
as of the resolution date (December 31, 2001) under the special
timing rule of paragraph (a)(2)(ii) of this section. Using an
interest rate of 10 percent per year (which, solely for purposes of
this example, is assumed to be reasonable), Employer P determines
that the present value of the future benefits is $87,881, and
Employer P includes that amount in wages for 2001. (Note that
Employer P can choose to use the lag method of withholding described
in paragraph (f)(3) of this section, which allows the resolution
date amount to be taken into account in the first quarter of 2002,
provided that an adjustment for income is made.)
Example 11. (i) The facts are the same as in Example 10, except
that Employer P chooses the early inclusion option permitted by
paragraph (e)(4)(ii) of this section to take $1,000,000 into account
on December 31, 1998, before the amount deferred for 1998 is
reasonably ascertainable.
(ii) Pursuant to paragraph (e)(4)(ii)(B) of this section, in
applying the nonduplication rule of paragraph (a)(2)(iii) of this
section, a first-in-first-out rule applies in determining the
benefits that are attributable to amounts previously taken into
account. Using the 10 percent interest rate, Employer P determines
that the $750,000 benefit payment on March 31, 2000, and the March
31, 2001 benefit payment of $400,000 are attributable to the
$1,000,000 previously taken into account and, therefore, are not
included in wages when paid.
(iii) Under paragraph (e)(4)(ii) of this section, if an employer
chooses to take an amount into account before the resolution date,
the amount taken into account (plus income attributable to that
amount) must be compared with the resolution date amount, and any
shortfall must be taken into account as an additional amount
deferred as of the resolution date. Pursuant to paragraph
(e)(4)(ii)(B) of this section, the benefits paid in 2000 and 2001
that were excluded from wages because they were attributable to the
amount that was taken into account (plus income attributable to
those payments) must be added to the resolution date amount for
purposes of this computation. Thus, Employer P must compare the
$1,000,000 taken into account in 1998 (plus income attributable to
that amount) to the sum of the $87,881 resolution date amount and
the two benefit payments ($750,000 and $400,000) excluded from wages
(plus income attributable to each of those benefit payments). Using
an interest rate of 10 percent, Employer P determines that the
additional amount that is required to be taken into account as of
December 31, 2001 is $72,653 ($1,331,000-($87,881 + $886,132 +
$429,640)).
(f) Withholding--(1) In general. Unless an employer applies an
alternative method described in paragraph (f)(2) or (f)(3) of this
section, an amount deferred under a nonqualified deferred compensation
plan for any employee is treated, for purposes of withholding and
depositing FICA tax, as wages paid by the employer and received by the
employee at the time it is taken into account in accordance with
paragraph (e) of this section. The alternative methods described in
paragraphs (f)(2) and (f)(3) of this section may be used for a calendar
year with respect to an amount deferred for an employee only if the
amount deferred cannot be readily calculated by the last day of the
year. An employer may, from year to year, change between the
alternatives described in this paragraph (f).
(2) Estimated method--(i) In general. Under the alternative method
provided in this paragraph (f)(2), the employer may make a reasonable
estimate of the amount deferred that cannot be readily calculated and
take that estimated amount into account as wages paid by the employer
and received by the employee on the last day of the calendar year (the
``first year'').
(ii) Underestimate of the amount deferred. If the employer
underestimates the amount deferred (as determined after calculating the
actual amount deferred that should have been taken into account by the
last day of the first year), the employer may treat the shortfall as
wages in the first year or in the first quarter of the next year (the
``second year''). In either case, the shortfall does not include the
income credited to the amount deferred after the first year. If the
employer chooses to treat the shortfall as wages in the first year, the
employer must reflect the shortfall on Form W-2 or Form W-2c for the
first year, and must correct the information on the Form 941 for the
last quarter of the first year. In addition, the shortfall will not be
considered a late deposit if it is deposited no later than the
employer's first regular deposit date after the close of the first
quarter of the second year.
(iii) Overestimate of the amount deferred. If the employer
overestimates the amount deferred (as determined after calculating the
actual amount deferred that should have been taken into account as of
the last day of the calendar year) and deposits more than the amount
required, the employer may claim a refund or credit in accordance with
sections 6402 and 6413.
(3) Lag method. Under the alternative method provided in this
paragraph (f)(3), the amount deferred that is
[[Page 2210]]
described in the last sentence of paragraph (f)(1) of this section may
be calculated on any date in the first quarter of the succeeding
calendar year and treated as wages paid by the employer and received by
the employee on that date. For purposes of applying paragraph (c) of
this section, the amount deferred includes income attributable to the
amount deferred through the date on which that amount is taken into
account under this paragraph (f)(3).
(4) Examples. This paragraph (f) may be illustrated by the
following examples:
Example 1. (i) Employer M maintains a nonqualified deferred
compensation plan that is an account balance plan. The plan provides
for annual bonuses based on current year profits to be deferred
until termination of employment. Employer M's profits for 1998, and
thus the amount deferred, cannot be readily calculated until
February 15, 1999.
(ii) In accordance with the alternative method described in
paragraph (f)(2) of this section, Employer M makes a reasonable
estimate that the amount deferred that must be taken into account as
of December 31, 1998 for Employee A is $20,000, and withholds and
deposits FICA tax on that amount as if it were wages paid by
Employer M and received by Employee A on that date. Employer M
subsequently determines that the actual amount deferred that should
have been taken into account on December 31, 1998 was $22,000.
(iii) In accordance with the alternative method described in
paragraph (f)(2)(ii) of this section, Employer M may treat the
additional $2,000 as wages paid to and received by Employee A either
in 1998 or in the first quarter of 1999. If Employer M chooses to
treat the additional $2,000 as wages in 1998, Employer M must pay
the FICA tax on the $2,000 difference no later than its first
regular deposit date occurring after March 31, 1999. In addition,
Employer M must file a Form W-2c for Employee A and must correct the
information on Form 941 for the last quarter of 1998. If Employer M
complies with these conditions, the FICA tax on the $2,000
difference is not considered a late deposit.
Example 2. (i) The facts are the same as in Example 1, except
that Employer M subsequently determines that the actual amount
deferred that should have been taken into account on December 31,
1998 was $19,000.
(ii) Under paragraph (f)(2)(iii) of this section, Employer M
may, in accordance with sections 6402 and 6413, claim a refund or
credit for the overpayment of tax resulting from the overestimate.
Example 3. (i) The facts are the same as in Example 1, except
that Employer M does not make a reasonable estimate of the amount
deferred that must be taken into account as of December 31, 1998.
Instead, Employer M withholds and deposits FICA tax on the amount
deferred plus income on that amount (determined under the terms of
the plan) as if it were wages paid by Employer M and received by
Employee A on March 15, 1999.
(ii) Under the alternative method described in paragraph (f)(3)
of this section, the amount taken into account on March 15, 1999
(including the income) will be treated as wages paid to and received
by Employee A in 1999.
(g) Effective date and transition rules--(1) General effective
date--(i) Effective date. Except as otherwise provided in this
paragraph (g) or in Sec. 31.3121(v)-2, this section is effective for
amounts deferred and benefits paid on or after January 1, 1997.
(ii) Reasonable, good faith interpretation--(A) in general. In
determining FICA tax liability for amounts deferred and benefits paid
before the effective date of this section, an employer may rely on a
reasonable, good faith interpretation of section 3121(v)(2), taking
into account pre-existing guidance. For example, an employer will be
deemed to have determined FICA tax liability and satisfied FICA
withholding requirements in accordance with a reasonable, good faith
interpretation of section 3121(v)(2) if that liability is determined in
accordance with paragraphs (a) through (e) of this section, and the
withholding method and timing comply with paragraph (f) of this
section. Whether an employer has made a reasonable, good faith
interpretation of section 3121(v)(2) will be determined based on the
relevant facts and circumstances, including consistency of treatment by
the employer.
(B) Optional adjustment for open years. If an employer determined
FICA tax liability for amounts deferred or benefits actually or
constructively paid in any year before the effective date of this
section for which the applicable period of limitation has not expired
(``pre-effective-date open years''), in a manner that was not in
accordance with this section, the employer may adjust its FICA tax
determination for that year. In this case, any amount deferred that
would have been taken into account (within the meaning of paragraph
(d)(1) of this section) in that year under this section must actually
be taken into account as if this section were effective for that year.
Thus, for example, appropriate adjustments for the prior period must be
reflected on Form 941, Employer's Quarterly Federal Tax Return, and
Form 941c, Supporting Statement to Correct Information, and Form W-2c
must be filed for any affected employee in order that the Social
Security Administration may correctly post the amount deferred to the
employee's earnings record. Similarly, if an amount was taken into
account under a nonaccount balance plan for any pre-effective-date open
year, but the amount deferred was not reasonably ascertainable (within
the meaning of paragraph (e)(4)(i) of this section), the employer may
claim a refund or credit for any FICA tax paid on that amount in
accordance with Internal Revenue Code sections 6402 and 6413 and,
thereafter, take the amount deferred into account when it first becomes
reasonably ascertainable.
(iii) Plan must be established or adopted. If amounts are deferred
under a plan before the effective date of this section and benefits are
paid on or after the effective date of this section, then in no event
will an employer's treatment of amounts deferred under the plan be
considered to be in accordance with a reasonable, good faith
interpretation of section 3121(v)(2) if the employer treats these
amounts as taken into account as wages for FICA purposes prior to the
establishment of the plan (within the meaning of paragraph (b)(2) of
this section) providing for the deferred compensation (or, if later,
the plan amendment providing for the deferred compensation). (If all
amounts are deferred and all benefits are paid before the effective
date of this section, ``adoption'' is substituted for ``establishment''
in the preceding sentence.) For example, awards, bonuses, raises,
incentive payments, and other similar amounts granted under a plan as
compensation for past services may not be taken into account under
section 3121(v)(2) prior to the establishment (or, if applicable, the
adoption) of the plan.
(2) Transition rule for plans that are not subject to section
3121(v)(2). If a plan is not a nonqualified deferred compensation plan
within the meaning of paragraph (b)(1) of this section, but, for a
period prior to the effective date of this section and pursuant to a
reasonable, good faith interpretation of section 3121(v)(2)(A), an
amount under the plan was taken into account (within the meaning of
paragraph (d)(1) of this section) as an amount deferred under a
nonqualified deferred compensation plan, then, pursuant to paragraph
(g)(1) of this section, the following rules shall apply:
(i) With respect to benefits actually or constructively paid before
the effective date of this section that are attributable to amounts
previously taken into account under the plan, no additional FICA tax
will be owed;
(ii) On or after the effective date of this section, benefits under
the plan must be taken into account as wages when actually or
constructively paid in accordance with paragraph (a)(1) of this
section; and
[[Page 2211]]
(iii) To the extent FICA tax was actually paid on the amount taken
into account prior to the effective date of this section, the employer
may claim a refund or credit to the extent permitted by sections 6402
and 6413. However, if any benefits were actually or constructively paid
to an employee under the plan before the effective date of this section
and these payments were not subject to FICA tax by reason of the
employer's treatment of the plan as a nonqualified deferred
compensation plan and the application of paragraph (g)(2)(i) of this
section, then the employer may claim a refund or credit for pre-
effective-date open years only to the extent that the FICA tax paid on
amounts deferred in those years exceeds the FICA tax that would have
been owed on the benefits actually or constructively paid to the
employee in those years if (notwithstanding paragraph (g)(2)(i) of this
section) those benefits had been subject to FICA tax when paid.
(3) Transition rules for plans that are subject to section
3121(v)(2)--(i) Plans that were treated as not subject to section
3121(v)(2)--closed years. If, for a period prior to the effective date
of this section and in accordance with a reasonable, good faith
interpretation of section 3121(v)(2), an employer treated a plan as if
it were not a nonqualified deferred compensation plan within the
meaning of section 3121(v)(2), but that plan is a nonqualified deferred
compensation plan within the meaning of paragraph (b)(1) of this
section, then, for purposes of determining whether benefits actually or
constructively paid on or after the effective date of this section were
previously taken into account as wages for purposes of applying the
nonduplication rule of section 3121(v)(2)(B), any amount deferred that
would have been required to have been taken into account under this
section in a year for which the applicable period of limitation has
expired as of the effective date of this section (a ``section 3121(v)
closed year'') will be treated as if it had been taken into account
within the meaning of paragraph (d)(1) of this section. For purposes of
this paragraph (g)(3)(i), an employer will be considered to have
treated a plan as if it were not a nonqualified deferred compensation
plan for a period prior to the effective date of this section only if
the employer withheld and deposited any FICA tax due on any benefits
actually or constructively paid under the plan during that period. The
rule of this paragraph (g)(3)(i) does not apply to any amount deferred
in a year that is not a section 3121(v) closed year that would have
been required to have been taken into account under this section (if
this section had been in effect for that year). Thus, such an amount
deferred will be treated as having been taken into account for purposes
of applying the nonduplication rule to benefits paid after the
effective date of this section only if the amount deferred was actually
taken into account within the meaning of paragraph (d)(1) of this
section.
(ii) Undervaluation of the amount deferred. If, for a period prior
to the effective date of this section, an employer determined the
amount deferred for an employee under a nonaccount balance plan in
accordance with a reasonable, good faith interpretation of section
3121(v)(2), but that amount is less than the amount that would have
been considered the amount deferred under paragraph (c) of this
section, the following rules shall apply:
(A) No additional FICA tax will be owed for that period; and
(B) The difference between the amount that was taken into account
in a section 3121(v) closed year and the amount that would have been
taken into account in that year had the amount deferred been determined
under paragraph (c) of this section is treated as if it had been taken
into account within the meaning of paragraph (d)(1) of this section. In
the case of an amount deferred (in a section 3121(v) closed year) that
was not reasonably ascertainable, the difference between the amount
taken into account (if any) and the amount that would have been taken
into account had the employer taken an amount into account using a
method permitted in paragraph (c) of this section and actuarial
assumptions that matched the actual experience is treated as if it had
been taken into account within the meaning of paragraph (d)(1) of this
section. Accordingly, with respect to such an amount deferred, the
employer is not required to take any additional amount into account
when the amount deferred becomes reasonably ascertainable, and no
additional FICA tax will be owed when the benefits attributable to the
amount deferred are actually or constructively paid. The rule of this
paragraph (g)(3)(ii)(B) does not apply to any amount deferred that
would have been required to have been taken into account under this
section in a pre-effective-date open year.
(iii) Overinclusion of the amount deferred. If an amount deferred
for an employee under a nonaccount balance plan was taken into account
before the effective date of this section in accordance with a
reasonable, good faith interpretation of section 3121(v)(2), but, under
this section, that amount would have been taken into account on or
after the effective date of this section, the following rules apply:
(A) The determination of an amount deferred for any period
beginning on or after the effective date of this section must be made
in accordance with paragraph (c) of this section, and the time when
that amount deferred is required to be taken into account must be
determined in accordance with paragraph (e) of this section, without
regard to any amount deferred that was taken into account for any
period before the effective date of this section; and
(B) The employer may claim a refund or credit for an overpayment of
tax caused by the pre-effective-date overinclusion of wages to the
extent permitted by sections 6402 and 6413.
(4) Examples. This paragraph (g) may be illustrated by the
following examples:
Example 1. (i) In 1994, Employer M establishes a nonqualified
deferred compensation plan that is a nonaccount balance plan for
Employee A. All benefits under the plan are 100 percent vested. In
order to determine the amount deferred on behalf of Employee A under
the plan for 1994 and 1995, Employer M must make assumptions as to
the date on which Employee A will retire and the form of benefit
Employee A will elect, in addition to interest, mortality, and cost-
of-living assumptions. Based on assumptions made with respect to all
of these contingencies, Employer M determines that the amount
deferred for 1994 is $50,000 and the amount deferred for 1995 is
$55,000. No OASDI tax is owed with respect to those amounts
deferred. However, Employer M withholds and deposits HI tax on those
amounts. Because Employee B does not retire before the effective
date of this section, Employer R will still need to make assumptions
for the date of retirement and the form of benefit through the
effective date. Employer M chooses to apply this section before its
effective date to 1994 and 1995.
(ii) Under the regulations in this section, the amounts deferred
in 1994 and 1995 are not reasonably ascertainable (within the
meaning of paragraph (e)(4)(i) of this section) before the effective
date of this section. Thus, assuming the applicable period of
limitation has not expired for 1994 and 1995, Employer M may, in
accordance with paragraph (g)(1)(ii)(B) of this section, apply for a
refund or credit for the HI tax paid on the amounts deferred for
1994 and 1995 in accordance with sections 6402 and 6413 and, in
accordance with paragraph (e)(4) of this section, take into account
the amounts deferred when they become reasonably ascertainable.
Example 2. (i) Employer N adopts a plan on January 1, 1994 that
covers Employee B, who has 10 years of service as of that date. The
plan provides that, in consideration of Employee B's outstanding
services over the
[[Page 2212]]
past 10 years, Employee B will be paid a $500,000 lump sum distribution
upon termination of employment at any time. On January 15, 1996,
Employee B terminates employment with Employer N. Employer N
determines, based on a reasonable, good faith interpretation of
section 3121(v)(2), that the plan is a nonqualified deferred
compensation plan under that section. Employer N treats the $500,000
as having been taken into account as an amount deferred in 1993 and
earlier years.
(ii) Under paragraph (g)(1)(iii) of this section, if all amounts
are deferred and all benefits are paid under a plan before the
effective date of this section, then in no event will an employer's
treatment of amounts deferred under the plan be considered to be in
accordance with a reasonable, good faith interpretation of section
3121(v)(2) if the employer treats these amounts as taken into
account as wages for FICA purposes prior to the adoption of the
plan. Accordingly, Employer N's treatment is not in accordance with
a reasonable, good faith interpretation of section 3121(v)(2)
because Employer N treated amounts as taken into account in years
before the adoption of the plan.
Example 3. (i) Employer O adopts a bonus plan on December 1,
1993 that becomes effective and legally binding on January 1, 1994.
Under the plan, which is not set forth in writing, a specified bonus
amount (which is 100 percent vested) is credited to Employee C's
account each December 31. A reasonable rate of interest on Employee
C's account balance is credited quarterly. Employee C's account
balance will begin to be paid in equal annual installments over ten
years beginning on January 1, 1999. Employer O determines, based on
a reasonable, good faith interpretation of section 3121(v)(2), that
the bonus plan is a nonqualified deferred compensation plan under
that section and, therefore, treats the amounts credited on December
31, 1994, 1995, and 1996 as amounts deferred and takes those amounts
deferred into account as wages for FICA purposes as of those dates.
The bonus plan is set forth in writing on February 1, 1997, which
for purposes of this example is assumed to be prior to the date that
is six months after the publication of the final regulations, and,
thus, is treated as established as of January 1, 1994.
(ii) Under paragraph (g)(1)(iii) of this section, if all amounts
are deferred and all benefits are paid under a plan before the
effective date of this section, then in no event will an employer's
treatment of amounts deferred under the plan be considered to be in
accordance with a reasonable, good faith interpretation of section
3121(v)(2) if the employer treats these amounts as taken into
account as wages for FICA purposes prior to the establishment of the
plan (within the meaning of paragraph (b)(2) of this section.
Because the bonus plan is treated as established on January 1, 1994
(pursuant to the transition rule provided in paragraph (b)(2)(iii)
of this section), the amounts deferred are not treated as having
been taken into account prior to the establishment of the plan, even
though the plan was not set forth in writing until February 1, 1997.
Example 4. (i) In 1985, Employer P establishes a compensation
arrangement for Employee D that provides annual payments over a
number of years after termination of employment. Prior to the
effective date of this section, and in accordance with a reasonable,
good faith interpretation of section 3121(v)(2), Employer P treats
the arrangement as a nonqualified deferred compensation plan under
section 3121(v)(2). Each year, consistent with this treatment,
Employer P determines the amount deferred that must be taken into
account as FICA wages for the year. Employer P also determines that
Employee D's total wages (without regard to the amount deferred) for
each year from 1985 through 1993 exceed the applicable wage base for
each of those years and, consequently, there is no FICA tax
liability with respect to the amounts deferred for those years. In
1994, Employee D's total wages (without regard to the amount
deferred) exceed the OASDI wage base. However, because there is no
limit on the HI wage base, the amount deferred for 1994 results in
additional HI tax liability of $290, which is timely paid by
Employer P.
(ii) Employee D terminates employment with Employer P in 1995
and receives a plan payment of $50,000. In that year, Employee D
also receives wages of $60,000 from Employer P. In accordance with
its treatment of the plan as a nonqualified deferred compensation
plan under section 3121(v)(2), Employer P does not treat the payment
in 1995 as wages for FICA purposes in that year. Although Employer P
made a reasonable, good faith determination that the plan is a
nonqualified deferred compensation plan under section 3121(v)(2),
the plan is not a nonqualified deferred compensation plan within the
meaning of paragraph (b)(1) of this section. Both 1994 and 1995 are
pre- effective-date open years.
(iii) Because amounts under a plan were taken into account
(within the meaning of paragraph (d)(1) of this section) as amounts
deferred under a nonqualified deferred compensation plan pursuant to
a reasonable, good faith interpretation of section 3121(v)(2)(A),
but that plan is not a nonqualified deferred compensation plan
within the meaning of paragraph (b)(1) of this section, the
transition rule provided in paragraph (g)(2) of this section
applies. Thus, no additional FICA tax will be owed on benefits paid
in 1995. However, on or after the effective date of this section,
benefits under the plan must be taken into account as wages when
actually or constructively paid in accordance with the general
timing rule of paragraph (a)(1) of this section.
(iv) Because $290 of HI tax was paid on the amount deferred in
1994, Employer P is entitled to a refund or credit for that amount--
but only to the extent that $290 exceeds the FICA tax that would
have been owed on the $50,000 annual payment in 1995 if those
benefits had been subject to FICA tax when paid (i.e., if the
regulation had been effective for those years). In 1995, Employee D
had other wages of $60,000. Thus, only $1,200 (the $61,200 OASDI
wage base, less the $60,000 of other wages) of the $50,000 payment
would have been subject to OASDI; the full $50,000 would have been
subject to HI. This would have resulted in $148.80 of OASDI tax
($1,200 x 12.4 percent) and $1,450 of HI tax ($50,000 x 2.9
percent). Employer P is not entitled to a refund or credit under the
transition rule of paragraph (g)(2) because the $290 of HI tax paid
in 1994 is less than the total $1,598.80 of FICA tax liability that
would have resulted if this section had applied for 1995.
Example 5. (i) In 1985, Employer Q establishes a compensation
arrangement for Employee E that is a nonqualified deferred
compensation plan within the meaning of paragraph (b)(1) of this
section. However, prior to the effective date of this section,
Employer Q determines, based on a reasonable, good faith
interpretation of section 3121(v)(2), that the arrangement is not a
nonqualified deferred compensation plan within the meaning of that
section. Thus, when payments under the arrangement begin in 1995,
Employer Q withholds and deposits FICA tax on the amounts paid to
Employee E. Payments under the arrangement continue after the
effective date of this section. Employer Q does not choose (under
paragraph (g)(1)(ii)(B) of this section) to adjust its FICA tax
determination for pre-effective-date open years by treating this
section as in effect for all amounts deferred and benefits actually
or constructively paid for those years.
(ii) Under paragraph (g)(3)(i) of this section, for purposes of
determining whether benefits actually or constructively paid on or
after the effective date of this section were previously taken into
account for purposes of applying the nonduplication rule of section
3121(v)(2)(B), any amount that would have been required to have been
taken into account in a section 3121(v) closed year will be treated
as if it had been taken into account within the meaning of paragraph
(d)(1) of this section. Under the nonduplication rule, benefits
attributable to an amount that has been so taken into account is not
treated as wages for FICA purposes at any later time (such as upon
payment).
(iii) Because Employer Q does not adjust its FICA tax
determination for pre-effective-date open years by treating this
section as in effect for all amounts deferred for those years, any
benefits attributable to those amounts will be included in wages
when actually or constructively paid in accordance with the general
timing rule of paragraph (a)(1) of this section.
Example 6. (i) The facts are the same as in Example 5, except
that Employer Q chooses (in accordance with paragraph (g)(1)(ii)(B)
of this section) to adjust its FICA tax determination for all pre-
effective-date open years by treating this section as in effect for
all amounts deferred for those years.
(ii) In accordance with the nonduplication rule of paragraph
(a)(2)(iii) of this section, any benefits attributable to the
amounts deferred that were taken into account for pre-effective-date
open years in accordance with paragraph (d)(1) of this section will
not be included as wages when actually or constructively paid.
Example 7. (i) The facts are the same as in Example 5, except
that Employer Q does not withhold and deposit the FICA tax due on
benefits actually or constructively paid prior to the effective date
of this section.
(ii) Because Employer Q did not withhold and deposit the FICA
tax due on benefits
[[Page 2213]]
actually or constructively paid during that period, the transition rule
provided in paragraph (g)(3)(i) of this section does not apply.
Therefore, any amount that would have been required to have been
taken into account under this section in a pre-effective-date closed
year is not treated as if it had been so taken into account, and
benefits attributable to any such amount are treated as FICA wages
when actually or constructively paid in accordance with the general
timing rule of paragraph (a)(1) of this section.
Example 8. (i) In 1993, Employer R establishes a nonqualified
deferred compensation plan for Employee F. In accordance with a
reasonable, good faith interpretation of section 3121(v)(2),
Employer R determines that, for 1993, there is an amount deferred of
$2.5 million that must be taken into account as wages for FICA
purposes. However, because Employee F has other wages in 1993 that
exceed the applicable OASDI and HI wage bases for that year, no
additional FICA tax is actually owed as a result of that amount
deferred being taken into account for 1993. Under this section, $2
million of the amount taken into account in 1993 would have been
taken into account for years beginning on or after the effective
date of this section because Employee F did not have a legally
binding right to that amount until after that date.
(ii) In accordance with paragraph (g)(3)(iii)(A) of this
section, the determination of the amount deferred under the plan for
any period beginning on or after the effective date of this section
must be made in accordance with paragraph (c) of this section, and
the time when that amount deferred is required to be taken into
account must be determined in accordance with paragraph (e) of this
section. In addition, these determinations must be made without
regard to any amount deferred that was taken into account for any
period before the effective date of this section. Thus, the $2
million that, under this section, would have been taken into account
for years beginning on or after the effective date of this section
must be taken into account under this section for those years.
Because no FICA tax was actually paid on that $2 million in 1993, no
overpayment of tax was caused by the overinclusion of wages in 1993
and, thus, Employer R is not entitled to a refund or credit.
Sec. 31.3121(v)(2)-2 Effective dates and transition rules.
(a) General effective date. Except as otherwise provided in
paragraphs (b) through (e) of this section, section 3121(v)(2) and the
amendments made to section 3121(a)(2), (3), and (13) by the Social
Security Amendments of 1983 (Pub. L. 98-21, 97 Stat. 65 (1983)), as
amended by section 2662(f)(2) of the Deficit Reduction Act of 1984
(Pub. L. 98-369, 98 Stat. 494 (1984)), apply to amounts deferred and
benefits paid after December 31, 1983.
(b) Definitions. For purposes of Sec. 31.3121(v)(2)-1 and
paragraphs (a) through (e) of this section, the following definitions
apply:
FICA. FICA means the Federal Insurance Contributions Act (26 U.S.C.
3101 et seq.).
457(a) plan. A 457(a) plan means an eligible deferred compensation
plan of a State or local government or of a tax- exempt organization to
which section 457(a) of the Internal Revenue Code applies.
Gap agreement. Gap agreement means an agreement adopted after March
24, 1983, and on or before December 31, 1983.
March 24, 1983 agreement. March 24, 1983 agreement means an
agreement in existence on March 24, 1983 between an individual and a
nonqualified deferred compensation plan within the meaning of
Sec. 31.3121(v)-1(b). For this purpose only, any plan (or agreement) to
make payments that qualify for one of the retirement payment exclusions
is treated as a nonqualified deferred compensation plan, regardless of
whether the plan (or agreement) is treated as a nonqualified deferred
compensation plan within the meaning of Sec. 31.3121(v)-1(b). For
example, Sec. 31.3121(v)-1(b)(4)(v) provides that certain benefits
established in connection with impending termination do not result from
the deferral of compensation and thus are not considered deferred under
a nonqualified deferred compensation plan. However, a plan that
provides such benefits and that was in existence on March 24, 1983 is
treated as a nonqualified deferred compensation plan for purposes of
this paragraph (b) to the extent it provides benefits that would have
satisfied one of the retirement payment exclusions had the benefits
been paid on April 19, 1983.
Post-amendment. Post-amendment means after December 31, 1983.
Pre-amendment. Pre-amendment means on or before December 31, 1983.
Retirement payment exclusions. Retirement payment exclusions are
the exclusions from wages (for FICA tax purposes) for retirement
payments under sections 3121(a)(2)(A), (a)(3), and (a)(13)(A)(iii), as
in effect on April 19, 1983.
Transition benefits. Transition benefits are post-amendment
payments attributable to pre-amendment services.
(c) Transition rules--(1) In general. The general effective date
described in paragraph (a) of this section applies to post-amendment
payments attributable solely to post-amendment services, whether or not
paid under a March 24, 1983 agreement or a gap agreement. Thus, section
3121(v)(2) applies, and the retirement payment exclusions do not apply,
to these benefits. Special effective dates apply to transition benefits
under a March 24, 1983 agreement and transition benefits under a gap
agreement. These special effective dates are set forth in paragraphs
(c)(2) and (c)(3) of this section, respectively.
(2) Transition benefits under a March 24, 1983 agreement.
Transition benefits under a March 24, 1983 agreement (except for those
under a 457(a) plan) are not subject to the special timing rule of
section 3121(v)(2) and remain subject to section 3121(a) as in effect
on April 19, 1983. Thus, transition benefits under a March 24, 1983
agreement (except for those under a 457(a) plan) are excluded from
wages (for FICA tax purposes) only if they qualify for any of the
retirement payment exclusions (or any other exclusion provided under
section 3121(a) as in effect on April 19, 1983).
(3) Transition benefits under a gap agreement. The payor of
transition benefits under a gap agreement must choose to either--
(i) Take the transition benefits into account as wages when paid;
or
(ii) Take the amount deferred (within the meaning of
Sec. 31.3121(v)-1(c)) with respect to the transition benefits into
account as wages under section 3121(v)(2) (as if section 3121(v)(2) had
applied before its general effective date).
(d) Determining transition benefit portion. For purposes of
determining the portion of total benefits under a nonqualified deferred
compensation plan that represents transition benefits, if, under the
terms of the plan, benefits are not attributed to specific years of
service, the employer may use any reasonable method. For example, if a
plan provides that the employee will receive benefits equal to two
percent of high three-year average compensation multiplied by years of
service, and the employee retires after 25 years of service, nine of
which are before 1984, the employer may determine that 9/25 of the
total benefits to be received beginning in 2000 are transition benefits
attributable to services performed before 1984.
(e) Order of payment. If an employer determines, in accordance with
paragraph (d) of this section, that a portion of the total benefits
under a nonqualified deferred compensation plan constitutes transition
benefits, then, for purposes of determining the portion of each benefit
payment that constitutes transition benefits--
(1) For a payment made before the effective date of this section,
the employer may use any reasonable allocation method to determine the
portion of a payment that consists of transition benefits, provided
that the
[[Page 2214]]
allocation method is consistent with the terms of the plan; and
(2) For a payment made on or after the effective date of this
section, the employer must treat each payment as consisting of
transition benefits in the same proportion as the transition benefits
that have not been paid (as of the effective date of this section) bear
to total benefits that have not been paid (as of the effective date of
this section), unless such allocation is inconsistent with the terms of
the plan.
Margaret Milner Richrdson,
Commissioner of Internal Revenue.
[FR Doc. 96-715 Filed 1-19-96; 12:52 pm]
BILLING CODE 4830-01-U
