Understanding US non-qualified deferred compensation arrangements and Internal Revenue Code Section 409A
Produced in partnership with Michael Falk of Kirkland & Ellis LLP and Sherene Awad Jodrey of Aon plc

The following Share Incentives practice note produced in partnership with Michael Falk of Kirkland & Ellis LLP and Sherene Awad Jodrey of Aon plc provides comprehensive and up to date legal information covering:

  • Understanding US non-qualified deferred compensation arrangements and Internal Revenue Code Section 409A
  • Relevance of non-qualified deferred compensation arrangements and Section 409A
  • Standard provisions of a typical non-qualified deferred compensation plan
  • Initial deferral elections by the executive
  • Initial deferral elections by the company
  • Subsequent deferral elections
  • Form of payment
  • Time of payment
  • Other aspects of a typical non-qualified deferred compensation plan
  • Six-month delay for specified employees
  • More...

Understanding US non-qualified deferred compensation arrangements and Internal Revenue Code Section 409A

Relevance of non-qualified deferred compensation arrangements and Section 409A

In the United States, deferred compensation arrangements appeal to executives and other highly paid employees because they allow them to postpone the recognition of income and other taxes until a future year. A qualified plan—such as a 401(k) arrangement—provides one mechanism through which to defer compensation. However, for executives, qualified plans are of limited use due to the limits on the amount of compensation that can be deferred through such arrangements and other applicable restrictions.

Alternatively, non-qualified deferred compensation plans have no caps on the amount that may be deferred and are not subject to the various restrictions applicable to qualified plans. While non-qualified plans do not have caps on the amounts that employees may contribute, they carry risk. The assets used to fund the plan must remain subject to the claims of the sponsoring company’s creditors until they are paid out, which may be years or decades down the road. They also must comply with one of the most complex provisions of the tax code—US Internal Revenue Code (IRC) Section 409A (section 409A).

Section 409A governs almost every aspect of US non-qualified deferred compensation, from the election to defer compensation to the timing of eventual payment. Failure to comply with section 409A is costly. The amounts

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