A collective investment trust (“CIT”) is a longstanding vehicle used by banks and trust companies to commingle the assets of qualified retirement trusts for investment. In recent years, CITs are enjoying a resurgence for defined contribution plans as an alternative to mutual funds in a 401(k) plan line up. The primary reason for the new popularity of CITs is that they often have a lower expense ratio than mutual funds as a result of being free from the extensive regulatory requirements imposed on mutual funds under the securities laws. But there are many other differences between CITs and mutual funds that plan fiduciaries should understand when adding an investment option structured as a CIT to their 401(k) plan line up. This blog provides a number of examples of issues that plan fiduciaries who are not familiar with CITs could miss. Continue Reading Collective Investment Trusts – What DC Plan Fiduciaries Should Know
During the two years following the SEC’s publication of final rules that require that companies satisfy the pay ratio disclosure requirements of the Dodd-Frank Wall Street Reform and Consumer Protection Act beginning in 2018 proxy statements, many public companies, hoping for a repeal or delay in the implementation of the rules, have waited to take the significant preparatory steps necessary for compliance. As there has been no reprieve in the deadline — the pay ratio is still required to be disclosed in 2018 proxy statements — the time for procrastination has ended, and public company clients need to take immediate steps to ensure compliance in 2018.
Briefly, the pay ratio disclosure contained in Item 402(u) of Regulation S-K requires public companies to disclose:
- The median of the annual total compensation of all employees of such public company other than the CEO;
- The annual total compensation of the CEO; and
- The ratio of those two amounts.
With all of the press about the new tax reform legislation and the proposed changes to the corporate tax rates, many companies might be considering strategies for accelerating deductions into earlier years to take advantage of those deductions in a year when the tax rates may be higher than in future years. One strategy to consider is whether it is possible to accelerate from 2018 to 2017 deductions for bonus payments (even though, at this stage, it is not entirely clear when or whether tax rate changes will actually go into effect). This strategy may work for other types of incentive compensation as well.
Generally, deductions must be taken in the year that is “proper” based on the taxpayer’s accounting method. Most corporations are accrual basis taxpayers and deductions by accrual basis taxpayers generally are to be taken when the liability is incurred—that is when all events establishing liability have occurred (commonly known as the “all events test”). In order for the all events test to be met, three things have to happen: (1) all events have occurred that establish the fact of liability, (2) the amount of the liability can be determined with reasonable accuracy, and (3) economic performance has occurred.
The first prong of the all events test is met when the event fixing liability occurs or the payment is unconditionally due. In the case of bonus compensation, that might mean that the employee remains employed through a specified date (e.g., the end of the bonus year or the bonus payment date). Sometimes that means that performance targets have to be satisfied at certain levels. In any case, the relevant “event” is not likely to occur earlier than the end of the year and possibly later into the next year. Revenue Ruling 2011-29, however, provides that the first prong of the all events test can be met if, at the end of the year in which the services are performed, the company is obligated to pay a minimum bonus amount. This is usually accomplished by the company’s board, compensation committee or other committee or person with the requisite authority adopting resolutions obligating the company to pay the minimum amounts. The adopting resolutions do not have to be a minimum amount PER INDIVIDUAL but rather an aggregate amount. If this can be established, then the first prong would be met in year one (and eligible for deduction in year one if the other prongs of the all events test are met for year one).
It is possible that your board (or applicable committee) would have sufficient information to determine at least a minimum aggregate amount that would be paid in bonuses and could establish that prior to year end. Assuming other requirements are met, this could accelerate the deduction for the group of employees covered by the minimum, at least as to the extent of the minimum amount. That minimum would actually have to be paid though—in other words, you could not decide to pay less for whatever reason.
The foregoing approach would most likely not work for covered employees within the meaning of section 162(m) of the Internal Revenue Code (assuming 162(m) remains in effect after tax reform) because it is highly unlikely that the company would have the requisite information to certify the performance targets prior to year end so as to establish the minimum amount. In addition, if the company did indicate that the covered employees would get a minimum amount (or any bonus amount) without regard to certification of the targets, the 162(m) treatment would be blown. Accordingly, in drafting resolutions establishing the minimum bonus amount, the company may wish to expressly exclude its 162(m) covered employees.
The Revenue Ruling also indicates that if the foregoing approach is taken, it will be treated as a change in accounting method and the appropriate rules for such change would need to be observed and taken into account going forward.
If this approach is of interest to your company, talk to your internal and external tax advisors to determine whether establishing the facts early can help you.
Although not quite as entertaining as the intrigue in Game of Thrones or Hamilton, the House and Senate have continued their dueling ways with respect to tax reform. The most recent salvo came from the Senate in the form of a Joint Committee on Taxation, Description of the Chairman’s Modification to the Chairman’s mark of the “Tax Cuts and Jobs Act” (JCX-56-17), November 14, 2017.
Unlike the original Senate version of proposed changes to the House version of the Tax Cuts and Jobs Act (both of which are summarized in our Client Alert dated November 14, 2017), which provided for drastic changes to the nonqualified deferred compensation rules, the new description appears to leave the deferred compensation rules in place. It also adds a transition rule for the modifications to section 162(m) of the Code that would provide that the expansion of section 162(m) would not apply to any remuneration under a written binding contract that was in effect on November 2, 2017 and that was vested as of December 31, 2016. In addition, the proposal eliminates the limitations on 401(k) catch-up contributions for high wage earners.
We are looking forward to the next episode…..
On November 2, 2017, H.R.1 or the Tax Cuts and Jobs Act (the “House Bill”) was introduced in the House of Representatives. The House Bill initially proposed to make sweeping changes to executive compensation provisions in the Internal Revenue Code of 1986, as amended (the “Code”). Among other changes, as initially proposed, the House Bill proposed to:
- Repeal Sections 409A and 457A of the Code and replace such Sections with Section 409B of the Code. While the repeal of Sections 409A and 457A would have been welcome news for many companies over the last ten or fifteen years, Section 409B would effectively prohibit the deferral of all compensation past the point in time when such compensation is no longer subject to a substantial risk of forfeiture related to the performance of services. Section 409B would apply to stock options as well (which were generally excluded from Sections 409A and 457A). The only exception to this rule would be the taxation of the transfer of property pursuant to Section 83 of the Code (other than stock options). While onerous, Section 409A at least permitted the deferral of compensation if certain requirements were met. Section 457A prohibited the deferral of compensation for service providers of nonqualified entities, which were limited and did not apply to most domestic entities. However, Section 409B effectively takes the requirements of Section 457A and makes them applicable to all companies.
- Repeal the performance-based compensation exception of Section 162(m) of the Code. All compensation paid to covered employees would only be deductible up to $1,000,000 regardless of whether the compensation was structured as performance-based compensation or not. The House Bill also expands the definition of the companies subject to Section 162(m), expands the definition of covered employee and makes the designation of any person as a covered employee permanent rather than a year by year determination for years after 2017.
- Add an excise tax of 20% for compensation paid by a tax-exempt organization in excess of $1,000,000. The excise tax is payable by the tax-exempt organization.
If your company is transferring employees to the U.S., be sure to review any outstanding equity grants and other awards of compensation (such as deferred bonuses) that they previously received under home country compensation plans that vest and are payable after they arrive in the U.S. In many cases, a company must amend the terms of such awards to comply with the Internal Revenue Code’s deferred compensation rules (Internal Revenue Code Section 409A) no later than the last day of the first year in which the transferred employees become U.S. tax residents. Failing to do so could result in a big tax bill for these employees down the road, which companies often end up paying, as well as a tax gross-up.
Under the Patient Protection and Affordable Care Act (“PPACA”), an applicable large employer may be responsible for an “employer shared responsibility payment” (an “ESRP”) if the employer (a) fails to offer minimum essential health coverage to most (generally, at least 95 percent) of its full-time employees and their dependents, or (b) offers coverage to most, but not all, full-time employees and their dependents, or offers coverage that is not affordable or that does not provide minimum value. However, an employer that falls into one of the above categories will be subject to an ESRP only if at least one of the employer’s full-time employees has enrolled in a qualified health plan through a health insurance exchange and received a premium tax credit.
More colloquially called the “employer mandate” or the “pay or play mandate,” this requirement generally took effect in 2015. The ESRP in 2015 for an applicable large employer that failed to offer minimum essential health coverage was generally $2,080 per full-time employee. If the employer offered minimum essential coverage to most employees, but not all, or coverage was not affordable or did not provide minimum value, the ESRP was generally $3,120 per employee who purchased coverage through a health insurance exchange and received a premium tax credit. Until now, though, the IRS had not issued a description of its process for assessing ESRP liability and, to date, no ESRPs have been assessed against applicable large employers.
Some expected that the ESRPs might not be assessed at all, given recent efforts to repeal and/or replace PPACA. Moreover, President Trump released an Executive Order dated January 20, 2017, directing that the Secretary of Health and Human Services and the heads of all other departments and agencies exercise all authority and discretion available to them waive, defer, grant exemptions from, or delay the implementation of any part of PPACA that would impose a financial burden on health insurers, families, individuals, or purchasers of health insurance. Subsequent guidance from the Department of Treasury, though, released on June 30, 2017, suggested that ESRPs might be imminent. In response to an inquiry from an employer, the Department of Treasury stated that employer shared responsibility payments under the Affordable Care Act are not being waived, reminding employers that “[t]he [January 2017] Executive Order does not change the law; the legislative provisions of the ACA are still in force until changed by the Congress, and taxpayers remain required to follow the law and pay what they may owe.” And now the IRS has weighed in … Continue Reading The Time Is Now: IRS to Issue First PPACA “Employer Mandate” Assessment Notices in Late 2017