US expats - Nonqualified deferred compensation (section 409A) final regs effective date delayed until 1 January 2009 

Notice 2007-86 delays the effective date of the final regulations until 1 January 2009.  As provided in Notice 2007-78, plan documents must be amended to comply with the final regulations on or before 31 December 2008.
 
Through 31 December 2008, taxpayers are required to operate a nonqualified deferred compensation plan in a reasonable, good faith interpretation of the statute and Notice 2005-1 and other applicable guidance.  Taxpayers may rely on the provisions in the proposed regulations until 31 December 2007, but may not rely on the proposed regulations in 2008.  Reliance on the final regulations during 2007 and 2008 is treated as applying a reasonable, good faith interpretation of the statute.  Taxpayers retain the burden of demonstrating that nonqualified deferred compensation arrangements were operated in good faith compliance with section 409A through 31 December 2008.

Notice 2007-86 extends the transition rule allowing taxpayers to select a new time and form of payment for deferred compensation through 31 December 2008.  As before, the election cannot defer income that would otherwise have been paid in the year the election is made, nor can the election accelerate income into that year.  Thus, an election that is made in 2007 cannot apply to amounts that would otherwise be paid in 2007, nor can the election cause a deferred amount to be paid in 2007.  Likewise, an election that is made in 2008 cannot further defer compensation that would otherwise be paid in 2008, not can the election accelerate a payment into 2008.  Taxpayers that took advantage of this transition rule in 2007 or prior years may again select a new time and form of payment, subject to these restrictions.

The Notice provides that a deferral election may be made with respect to an amount that is a short-term deferral within the meaning of the proposed regulations, if the election is made before 1 January 2008 and before the year in which the amount would otherwise have been paid.  A deferral election may be made with respect to an amount that is a short-term deferral within the meaning of the final 409A regulations, provided that the election is made before 1 January 2009 and before the year in which the amount would otherwise have been paid.  A short-term deferral is generally compensation that is paid no later than 2 1/2 months following the year in which the compensation became vested.  Thus, an annual bonus that provides that a participant's right to the compensation becomes vested on 31 December 2007 and the bonus will be paid on 15 March 2008 is a short-term deferral.

The Notice extends until 31 December 2008 the ability to link a payment election under a nonqualified plan to an election under a qualified plan.  This relief is also extended to nonqualified deferred compensation plans linked to other employer plans, including 403(b) plans and 457(b) eligible plans, and certain foreign broad-based plans.  The definitions of qualified employer plan and foreign broad-based plan provided in the proposed regulations can only be relied upon for these purposes for elections made through 31 December 2007.  The definition of these terms in the final regulations may be relied upon for elections made in 2007 and 2008.

The Notice extends the time to correct certain discounted stock options and discounted stock appreciation rights ("SARs") that are subject to section 409A.  Thus, until 31 December 2008, taxpayers can cancel outstanding discounted stock options and SARs and reissue stock options and SARs with an exercise price equal to the fair market value of the underlying stock on the original grant date, in line with prior IRS guidance.  Any payments of the foregone discount must also meet the requirements of prior IRS guidance, including the requirement that the payment be made no earlier than the calendar year after the year the cancellation and reissuance of the option occurs.  However, under Notice 2006-79, the transition period for addressing discounted options held by certain corporate insiders ended on 31 December 2006.  This deadline has not been extended.

The transition relief provided in the preamble to the final 409A regulations is generally modified to reflect the new 1 January 2009 effective date of the final regulations and the restriction on relying on the proposed regulations after 31 December 2007.  In particular, the preamble is modified to provide that for stock rights issued on or after 1 January 2005, but before 1 January 2009, the provisions of Notice 2005-1 will apply, generally requiring that fair market value for purposes of setting the exercise price of a stock right must be determined using a reasonable valuation method.  In addition, for stock rights issued before 1 January 2008, taxpayers may rely upon the provisions of the proposed or final regulations with regard to the determination of the fair market value of the underlying stock.  However, for stock rights issued after 31 December 2007, taxpayers may only rely upon the provisions of the final regulations with regard to the determination of the stock's fair market value.