Effective for tax years beginning on or after January 1, 2013, California has reduced from 20% to 5% its additional state income tax on deferred compensation arrangements that fail to comply with Internal Revenue Code Section 409A. Now, in the event of a Section 409A violation, a California taxpayer will be liable to pay an aggregate additional tax of 25% (20% to the Federal government and 5% to the State of California), plus interest imposed under Section 409A. In addition, a taxpayer is generally required to include the noncompliant Section 409A arrangement in income on an accelerated basis (to the extent vested), resulting in ordinary income taxes coming due plus the additional taxes and interest described above. Depending on the nature of the deferred arrangement, employment taxes may also be due at that time.
Although this is a welcome change, employers and individual taxpayers should continue to ensure that their compensation arrangements comply with or are exempt from Section 409A. Please note that Section 409A potentially applies to a wide variety of compensation arrangements ranging from traditional deferred compensation plans to severance agreements, stock options, phantom stock plans, bonus plans, and other arrangements that may not be obvious.
Orrick can help you identify your compensatory arrangements that are subject to Section 409A and ensure compliance with Section 409A. Please give us a call if you have questions about this or any of your other compensation and benefits needs.
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