Retirement Planning _ Deferred Compensation and Employee Benefits Flashcards
What types of events are considered constructive receipt by a taxpayer and includable as taxable income?
income is:
- credited to his account
- set apart for him
- otherwise made available so that he may draw upon it at any time
- so he could have drawn upon it during the taxable year if notice of intention to withdraw had been given
taxpayer exercises “dominion and control” over the asset even if he was to not receive it
What is not considered constructive receipt?
an unsecured promise to pay
the benefits are subject to substantial limitations or restrictions
the triggering event is beyond the recipient’s control (i.e., company is acquired)
What is the Economic Benefit Doctrine and what is an exception to the rule?
provides an EE will be taxed on funds or property set aside for the EE if the assets are UNRESTRICTED and NONFORFEITABLE, even if the EE was not given a choice to receive the income currently
Deferred compensation plans may provide for a trust to hold funds for the EE prior to retirement or termination
EXCEPTION = USE OF A RABBI TRUST
How does IRC Section 83: Property Transferred in Connection with Performance of Service work?
ER transfers property to an EE in connection with performance of service TAXING THE EE ON THE DIFFERENCE BETWEEN FMV & AMOUNT PAID FOR THE PROPERTY
How does payroll tax affect deferred compensation?
Deferred compensation is considered to be earned income at the time it is earned or at the time a substantial risk of forfeitures expires (for restricted stock)
It is subject to payroll taxes at that time even though the EE may not receive payment until sometime in the future.
How does the employer income tax deduction work for deferred compensation?
THE MATCHING PRINCIPLE
THE MATCHING PRINCIPLE
ER is entitled to receive income tax deduction for contributions only when EE is required to include the payments as taxable income
What is a secular trust?
IRREVOCABLE trust
holds funds and asset for EE for purpose of paying benefit under a NQDC arrangement
NO SUBSTANTIAL RISK OF FORFEITURE == IMMEDIATE TAXATION TO EE; often subject to SOME OTHER FORM of substantial risk of FORFEITURE like a VESTING SCHEDULE OR TERM OF EMPLOYMENT REQUIREMENT requirement to prevent immediate taxation
Funded (for purposes of ERISA)
What is a 401K Wrap Plan?
a form of salary reduction plan that enables executives who are subject to salary deferral limitations due to the nondiscrimination rules to contribute higher amounts than otherwise permitted under a 401K plan
How are Employer Stock Options taxed?
option price (exercise price) = FMV at grant date (date of issuance)
if NO READILY ASCERTAINABLE FMV, NO TAXABLE INCOME to option holder on the grant date
taxable to recipient when FMV is ascertainable
option is only a form of deferred compensation if the stock price increases
option holder allows to lapse if stock price declines
options granted at FMV are not subject to rules under IRC Section 409A
options issued at a discount from FMV are subject to IRC Section 409A and its harsh tax results
What are the two standard types of employer stock options?
Incentive Stock Options (ISOs)
Non-Qualified Stock Options (NQSOs)
What is an Incentive Stock Option (ISO)?
a right given to an EE to purchase ER’s common stock at a stated exercise price
if IRC Section 422 requirements met at time of grant (provided exercise price = FMV), EE will not recognize any taxable income at date of grant
EE not subject to ordinary income tax at date of exercise on difference between FMV and exercise price (bargain element)
bargain element is a positive adjustment for AMT calculation
when EE sells stock, difference in sales price and original exercise price is LTCG (assuming holding periods are met), negative adjustment for AMT calculation
DUAL HOLDING PERIOD MUST BE MET
- QUALIFIED SALE = WAIT 2 YEARS FROM STOCK GRANT DATE & 1 YEAR FROM EXERCISE DATE
What are the requirements for Incentive Stock Option?
What is a Qualifying Disposition?
when a sale of stock acquired after exercising an ISO is disposed of before either:
2 years from grant date, OR
1 year from exercise date
some of the favorable tax treatment is lost
- any gain on sale attributable to difference between exercise price and FMV at date of exercise is ORDINARY INCOME not subject to payroll tax or federal tax withholding
- STCG or LTCG depending on holding period for exercise price minus FMV at exercise date
What is a Non-Qualified Stock Option (NQSO)?
does not meet ISO requirements or is explicitly identified as non-qualified
basically a bonus program = additional compensation, nothing more
no favorable capital gains treatment when exercised, not subject to holding period associated with ISOs
executive takes no risk with an NQSO
grant date = W-2 income to executive if ascertainable value (FMV > grant value)
exercise date = W-2 income to executive for appreciation over exercise price (bargain element) w/ income and payroll tax applicable (ER has income tax deduction of same amount)
amount paid for stock at exercise plus bargain element in executive’s W-2 will form the basis for the stock
when stock is sold executive’s gain or loss is capital gain or loss w/ STCG or LTCG treatment
ISO vs. NQSO Concepts
At Grant Date
At Exercise
Taxation
Adjustable Basis
When Stock is Sold
Know the “recognition” of rules for EE Fringe Benefits
form of compensation for performance of services
increases EE total compensation without raising (or minimally raising) EE taxable income
