House Tax Bill Makes Major Changes to Employee Benefits and Executive Compensation
The tax bill released by the House on November 2 contains a number of major changes affecting employee benefit plans and executive compensation, which will have a significant negative impact on employers and employees if enacted. Amendments to the bill have already been proposed in the House, and the Senate released its own bill on November 9, which differs from the House bill in some respects. Differences between the two bills will be resolved in a conference committee.
The following is a summary of the significant changes contained in the House bill:
Benefits under non-qualified deferred compensation plans will be taxed under the bill when the benefits vest, rather than later (sometimes much later) when the benefits are paid as under current law. The new rules are similar to the rules that now apply to plans of tax-exempt employers, and will affect not only deferred compensation plans, but also many other types of plans and agreements, including supplemental retirement plans, severance agreements, phantom stock agreements, physician buyout agreements, etc. This change in the rules will make these kinds of plans much less attractive and greatly alter the design of plans installed in the future. Most existing plans and agreements will need to be amended, although current account balances will be grandfathered under existing rules until 2026.
In another big change, options will be subject to the new deferred compensation rules and taxable when they vest, rather than when they are exercised or when the underlying share are sold as under current law. This will have a huge negative impact on the many companies that use options as a compensation tool and on their employees. At the time of this alert, an amendment to the bill has been proposed to allow a deferral for stock of private companies.
The $1.0 million cap on deductible compensation for executives of public companies will apply to more employees and the exception for certain performance-based plans will be eliminated.
Annual compensation in excess of $1.0 million paid to the five highest-paid executives of a tax-exempt corporation will be subject to a 20% excise tax, and golden parachute payments to these executives will also be subject to a 20% excise tax. Certain types of deferred compensation plans for tax-exempt employers will be eliminated directly, or through coordination of their limits with other plans.
Several tax-free employee benefits are being eliminated, including education assistance that is not job-related, transportation assistance, dependent care assistance, adoption assistance, qualified moving expense reimbursement, and employee achievement awards, although an amendment to the bill has been proposed in the House to retain the income exclusion for dependent care assistance. How these changes will apply to plans for which employees have already made choices for 2018 during open enrollment is unknown.
Although there had been a proposal to eliminate or reduce the deduction for 401(k) contributions, that proposal was removed from the House bill. However, the Senate bill eliminates catch-up contributions for employees earning more than $500,000 per year, and also includes rules coordinating benefit caps among different plans covering the same employees, which will have the effect of limiting contributions for some employees.
The bill is on a fast track, with passage expected before the end of the year. In the meantime, stay tuned for future developments.
Please contact Charlie Berquist or Libby Davydov at the firm if you have any questions about this alert.