Month: September 2019

For an NQDC Plan, Being Subject to ERISA May Be A Good Thing

This Sixth Circuit Court of Appeals decision involving a nonqualified deferred compensation plan (NQDC) shows why it can be important for a nonqual plan to comply with Internal Revenue Code Section 409A compliance and the Employee Retirement Income Security Act of 1974 (ERISA) claims procedures.

Fulcrum Partners, a national executive benefits advisory, shares these important insights from attorneys Greg Daugherty and Dave Tumen of Porter Wright, first published: July 31, 2019.

Sixth Circuit Nonqualified Deferred Compensation Plan Decision Highlights Importance of Code Section 409A Compliance and ERISA Claims Procedures

We often receive questions about whether different types of bonus plans and nonqualified deferred compensation plans (NQDC plans) are subject to ERISA. We explain that being subject to ERISA may be a good thing for an NQDC plan, particularly with respect to resolving disputes and claims for benefits. Even if it is questionable whether an NQDC plan is subject to ERISA (i.e., because it arguably does not provide retirement benefits or covers only one person), sometimes it might make sense to include ERISA claims procedures and file a top hat letter. A recent case—Wilson v. Safelite Grp., Inc.—in which the Sixth Circuit held that ERISA preempts state contract and tort law claims, illustrates the benefits of being an ERISA plan.

This case was particularly notable because it also involved violations of Internal Revenue Code Section 409A of the Internal Revenue Code and related guidance (Code Section 409A). While the issue in the case was whether the plan was subject to ERISA, we want to focus on two other important items that may not as easily be noticed. One is the limits of a Code Section 409A “savings clause” in an NQDC plan. The other is the importance of following ERISA claims procedures with respect to NQDC plans.

Code Section 409A Savings Clauses

Most NQDC plans contain what often is called a Code Section 409A “savings clause.” It is a section of the NQDC plan that says that the NQDC plan is intended to comply with Code Section 409A. Code Section 409A imposes penalties on participants in NQDC plans if the NQDC plan document or administration does not comply with strict payment and election timing rules. Those penalties include immediate recognition of deferred income, an additional 20 percent tax on those amounts, and interest equal to the underpayment rate plus one percentage point on the tax deficiency that resulted from not recognizing the deferred income originally. The intended purpose of the savings clause is to make sure that any ambiguity is resolved in favor of a pro- Code Section 409A interpretation.

Ironically, such a “savings” clause will not necessarily save you in the Code Section 409A world. While IRS officials and most practitioners recommend these savings clauses, the IRS still requires that the substantive terms comply with Code Section 409A. If a term a is ambiguous or not clearly defined, a savings clause may tip the balance in favor of a Code Section 409A-compliant interpretation. If, however, a required Code Section 409A term is omitted; a term in the NQDC plan clearly contradicts Code Section 409A; or if the administration of the NQDC plan violates Code Section 409A (regardless of whether the document is compliant), a savings clause (in the IRS’s view) will not override those violations. The IRS likely will still assess penalties, and as mentioned previously, most of those penalties fall on the participant.

That raises a question—if an NQDC plan contains a savings clause that suggested that the NQDC plan complied with Code Section 409A, and either the document or plan administration violated Code Section 409A, could an executive sue his or her employer for breach of contract or a tort in that situation to recover the penalties?

NQDC Plans and ERISA

That was the argument that Dan Wilson, Safelite’s former president and CEO, tried to make. He had participated in Safelite’s nonqualified plan for several years, and when he terminated service with Safelite, his account balance was $9,111,384. The IRS audited Safelite’s NQDC plan and found that Mr. Wilson’s elections under the plan had violated Code Section 409A. Mr. Wilson attempted to sue Safelite for breach of contract and mismanagement of the plan because Mr. Wilson was assessed IRS penalties despite the plan’s language that suggested it was compliant with Code Section 409A.

The District Court held that because the NQDC plan at issue was an ERISA pension plan, ERISA preempted these state law claims. The Sixth Circuit affirmed that decision. The Sixth Circuit decision held that an NQDC plan whose default payment timing was retirement but also allowed earlier in-service payments was an ERISA pension plan that potentially provided retirement benefits. The fact that payments could be made before retirement did not qualify the plan for the bonus program exception to ERISA.

Interestingly, many people’s initial reaction when they hear “ERISA” is to try to find an exemption to ERISA. In many cases, that is understandable. ERISA contains complex rules that prohibit highly compensated employees from benefiting disproportionately compared to non-highly compensated employees, funding requirements, fiduciary rules, and vesting requirements. If a plan is a “top-hat” plan, however, being an ERISA pension plan may actually be beneficial for three key reasons.

  • A “top hat” plan—one whose participation is limited to a select group of management or highly compensated employees—is exempt from many ERISA requirements, such as funding, nondiscrimination in coverage and benefits, vesting and fiduciary rules.
  • A top hat plan is still subject to reporting requirements, but the plan sponsor may satisfy these requirements simply by filing a one-time letter with the Department of Labor.
  • A top hat plan is still subject to ERISA’s claims procedures requirements, which requires an internal review and appeals procedure before a participant may take the claim to litigation. Further, discovery generally is limited to the administrative record developed during the review, and courts tend to be deferential to the internal determinations.

The take-away is that being a top hat ERISA pension plan provides another line of defense for plan sponsors. Mr. Wilson may still recover some or all of the penalties he incurred, but the process would have been easier for him in state court than under the ERISA procedures.

Action Items for NQDC Plan Sponsors

As a response to this decision, we recommend that NQDC plan sponsors take the following actions:

  • Review NQDC plans for compliance with Code Section 409A. It is much better for the employer to catch a mistake early and try to correct it than to have the IRS discover the mistake.
  • Make sure that NQDC plans demonstrate compliance with the applicable ERISA requirements. In particular, make sure that a top hat letter has been filed with the DOL (if applicable), and make sure that the plan has the appropriate claims procedures. If a top hat letter has not been filed, the DOL allows delinquent filings at a fairly small charge. Adding claims procedures could help resolve any potential future litigation much more easily than if there were not claims procedures.
  • Include provisions in the NQDC plan that disclaims responsibility for Code Section 409A violations and requires participants to consult with their own tax advisors regarding how Code Section 409A may affect them.


You can find the original publication of this article by Fulcrum Partners here.

Change is Coming if Your Plan Uses a Limited Scope Audit

The American Institute of Certified Public Accountants, Inc. (AICPA) issued a new statement in July changing the requirements for its members that perform retirement plan audits. Previously, if a large plan utilized the limited scope audit option, the auditor effectively could wash their hands of any information that fell outside of that limited scope.

This new statement eliminates the use of the term “limited scope” and will require that AICPA members who complete plan audits will need to state that information on the financial statements not covered by the certification is fairly presented; and that the investment information contained in the financial statements reconciles with or is derived from information in the bank’s certification.

You might be wondering how these accounting rules modify ERISA. Well, technically, they don’t. But if your auditor is a member of the AICPA, then they must follow these new professional requirements. In addition, these new requirements do seem to reinforce prior guidance from the Department of Labor advising that plan administrators have a fiduciary duty, when opting for a limited scope audit, to ensure that the certification process is a sufficient substitute for an audit of the financial information.

These requirements don’t go into effect until after December 15th of 2020, some plans and auditors will choose to implement them for their next plan audits.

For more information about the new requirements, check out this comprehensive article by The Wagner Law Group.

Back to School… But How Are You Paying for It?

45 million Americans owe $1.48 trillion in student loan debt as of 6/30/19, a +114% increase (up +$790 billion) in just the last 10 years (source: Federal Reserve Bank of New York). We hear from many plan participants that they know they need to save more for their retirement, but they are already stretched to the limit paying for their children’s college tuition.

One way that employers are aiming to help their employees with this challenge is through flexible matching programs. These programs aid employees who have student loan debt or want to create college savings, while still helping them to save for retirement.  One of the best parts is that employers can implement these types of programs without significantly increasing their benefits budget. Employees are simply choosing how to allocate their employer match: to the retirement plan, education expenses, or both.

For more information on flexible matching programs, contact your SRP Managing Director.