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CCH® PENSION — 12/15/08

IRS Provides Relief From Income Taxes For Deferred Compensation Amounts Under IRC Sec. 409A

From Spencer's Benefits Reports: In Notice 2008-113, the Internal Revenue Service provides procedures to obtain relief from the full application of the income inclusion and the additional taxes under IRC Sec. 409A, which apply to certain operational failures of a nonqualified deferred compensation plan to comply with Sec. 409A. The notice includes the following:

• methods for correcting certain operational failures during the service provider’s taxable year in which the failure occurs and, for certain service providers also during the subsequent taxable year, to avoid income inclusion under Sec. 409A(a);
• relief limiting the amount includible in income under Sec. 409A(a) for certain operational failures during a service provider’s taxable year that involve only limited amounts;
• relief limiting the amount includible in income under Sec. 409A(a) for certain operational failures regardless of whether the failure involves only limited amounts, but subject to further required actions to correct the failure; and
• special transition relief for certain operational failures occurring before Jan. 1, 2008.

Sec. 409A provides that all amounts deferred under a nonqualified deferred compensation plan for all taxable years are currently includible in gross income to the extent not subject to a substantial risk of forfeiture and not previously included in gross income, unless certain requirements are met. On April 10, 2007, the IRS issued final regulations regarding the application of Sec. 409A, applicable for taxable years beginning on or after Jan. 1, 2009. Then, on Dec. 3, 2007, the IRS issued Notice 2007-100, I.R.B. 2007-52, 1243, which set forth guidance permitting the correction of certain operational failures and provided transition relief limiting the amount includible in income under Sec. 409A(a) for certain operational failures involving limited amounts. Notice 2007-100 also described potential guidance that would limit the amount includible in income under Sec. 409A(a) for certain operational failures involving amounts that exceeded the limit. Most recently, on December 8, the IRS issued proposed regulations governing the calculation of amounts includible in income under Sec. 409A(a) and the additional taxes imposed by that section with respect to service providers participating in certain nonqualified deferred compensation plans.

Requirements Of The Notice

As provided by Notice 2008-113, a taxpayer is not eligible for the relief provided in the notice unless all of the specified requirements are met, as well as the requirements of the particular section of the notice providing the applicable relief and the enumerated reporting requirements. In each instance, the taxpayer claiming the relief has the burden of demonstrating that the taxpayer was eligible for the relief and that the requirements of the notice have been met. Any application of the relief provided in the notice is subject to examination by the IRS.

The relief provided in Notice 2008-113 is not available unless, in addition to meeting the applicable requirements of the relevant section, the service recipient takes “commercially reasonable” steps to avoid a recurrence of the operational failure. If the same or a substantially similar operational failure has occurred previously, the relief is not available for any taxable year of the service provider beginning after Dec. 31, 2009, unless the service recipient or service provider demonstrates that the service recipient had established practices and procedures reasonably designed to ensure that such an operational failure would not recur and had taken commercially reasonable steps to avoid a recurrence of the operational failure and that the operational failure occurred despite the service recipient’s diligent efforts. In addition, the relief provided in the notice is not available if a federal income tax return of the relevant service provider for the service provider’s taxable year in which the operational failure occurred is under examination with respect to the plan.

Notice 2008-113 does not provide relief for plan terms and provisions that fail to meet the requirements of Sec. 409A or for operational failures that are not described in the notice. The notice addresses corrections of operational failures under Sec. 409A such as the following:

• a failure to defer an amount or an incorrect payment of an amount payable in a subsequenttaxable year that is corrected in the same taxable year as the failure;
• the correction of operational failures involving service providers in the taxable year immediately following tha tacable year in which the failure occurs; relief for certain operational failures involving limited amounts; and
• relief for certain other operational failures under Sec. 409A.

The notice includes a number of examples illustrating these various relief provisions.

Comments Requested

In Notice 2008-113, the IRS states that it is “considering whether to extend the ability of certain service providers to repay an incorrect payment of a deferred amount over an extended period if the service provider would otherwise experience an immediate and heavy financial need as defined in [Reg. Sec.] 1.401(k)-1(d)(3)(iii) due to the repayment requirement to the relief” provided in the notice, subject to the service provider submitting an appropriate extension of the statute of limitations on assessment with respect to the taxable year in which the failure occurred. The IRS requests comments on all aspects of such potential relief, including whether such relief would be utilized and how such relief would be implemented. The IRS also is considering whether a program providing relief in the case of a plan document failure that is brought into compliance with Sec. 409A would be both feasible and advisable.

Comments should be submitted by March 6, 2009, to the IRS, CC:PA:LPD:RU (Notice 2008-113), Room 5203, P.O. Box 7604, Ben Franklin Station, Washington, DC 20044. Submissions also may be submitted electronically to the following e-mail address:

Notice.comments@irscounsel.treas.gov. Include the notice number (Notice 2008-113) in the subject line. For further information, contact Stephen Tackney at (202) 927-9639.

For more information on this and related topics, consult the CCH Pension Plan Guide, CCH Employee Benefits Management, and Spencer's Benefits Reports.

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