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IRS Proposes New Section 162(m) Regs

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January 07, 2020 | Barbara Baksa

IRS Proposes New Section 162(m) Regs

The IRS has proposed new regulations under Section 162(m). These regulations would implement the amendments to Section 162(m) under the Tax Cuts and Jobs Act of 2017 and expand upon the guidance in Notice 2018-68. For today’s blog entry, I cover a few highlights of the proposed regs.

First, Some Background

Section 162(m) limits the tax deduction public companies can claim for compensation paid to specified executive officers to $1 million per officer. The TCJA significantly expanded the scope of Section 162(m), by both increasing the number of officers covered under the provision and eliminating the exception for performance-based compensation. Prior to the TCJA, both stock options and performance awards were exempt from Section 162(m).

Notice 2018-68 provided interim guidance addressing key implementation questions.

Grandfather Provision and Negative Discretion

The TCJA includes a grandfather provision that applies to any compensation paid pursuant to a legally binding contract that was in place on or before November 2, 2017. One concern is whether compensation paid under performance awards where the board has the authority to discretionarily reduce the payout can qualify for the grandfather exemption. Where the board has broad authority to reduce the payout, it is not clear that the company is legally obligated to make the payment.

You may be hoping that I’m going to deliver some good news here but alas, I got nothin’. The regulations propose the same standard that is specified under Notice 2018-68, i.e., that companies should look to state law to determine whether the award is considered legally binding.

Acceleration of Vesting

Compensation is eligible for the grandfather provision only to the extent that the arrangement under which it is paid is not materially modified after November 2, 2017. Here there is some good news—acceleration of vesting of equity awards is not considered a material modification.

Transition Period for Newly Public Companies Eliminated

Previously, newly public companies were able to take advantage of a three-year transition period before they were fully subject to Section 162(m). The proposed regs eliminate this period so newly public companies would become subject to the deduction limitation immediately in the year of their IPO.

More Information

The proposed regulations cover far more than the topics I’ve highlighted in this blog entry. For example, there’s a whole discussion of rules pertaining to public-traded partnerships and disregarded entities that I hope I never have to understand. Plus lots of rules that apply to cash compensation, account and nonaccount balance plans (whatever those are), separation agreements, and other topics outside the world of stock compensation. Here are some articles that provide more in-depth coverage of the proposed regs:

Need to know more but don’t like to read? The new regs will be discussed in the NASPP’s upcoming webcast “2020 Hot Topics for Equity Compensation” on January 15.

- Barbara

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