What will the Tax Reform Bill Mean for Employee Benefits: 401(k) Plans Untouched in House Tax Reform Bill but Executive Compensation May Drastically Change
November 15, 2017
Practice team: Employee Benefits and Executive Compensation
401(k) Plans Untouched in House Tax Reform Bill but
Executive Compensation May Drastically Change
On November 2, 2017, the House Ways and Means Committee introduced its much anticipated proposed tax reform bill, the Tax Cuts & Jobs Act. As President Trump has stated in the media, the bill did not touch the amount of pre-tax contributions that could be made to 401(k) plans. Wall Street and the public reacted unfavorably to earlier reports that the pre-tax limit would be reduced to $2,400. Therefore, this aspect of the bill should make Wall Street happy. However, the proposed changes to executive and deferred compensation in the bill are likely to give Wall Street and highly compensated executives plenty of heartburn, which begs the question: will the proposals survive?
The crux of the changes is that most deferred compensation will be taxed upon vesting regardless of when received. This can cause workers to be taxed on "phantom income" because they would be subject to tax but not receive the compensation to help pay the tax. The details are summarized below but it is important to note that this is simply proposed legislation at this time and these provisions may be changed or deleted.
Nonqualified Plans of For-Profit Entities Taxed Like Those of Tax Exempt Organizations
Beginning in 2018, nonqualified deferred compensation of for profit employers would become taxable upon vesting. That is, when the right to the compensation is no longer subject to a substantial risk of forfeiture regardless of when the compensation is to be received. This is essentially the current tax rules under Code section 457(f) for deferred compensation plans of tax exempt organizations that do not meet the eligibility requirements of Code section 457(b). Current deferred compensation plans that relate to services performed before 2018 would be grandfathered and subject to current rules until 2025 at which time it will be subject to tax upon vesting. This change in taxation affects deferred compensation, SERPs, stock options and stock appreciation rights, and severance plans.
This provision was actually dropped from the bill when the House Ways & Means Committee reported it out of committee. However, the Senate's version of the bill, introduced on November 9, reinstated it.
Compensation Limited to $1 Million Annually
Under current law, public companies cannot deduct compensation paid to certain executives exceeding $1 million. There is an exception to this rule for "performance-based" compensation allowing it to be deducted. Under this bill, the exception is repealed. In addition, any tax exempt organization that pay an employee or former employee over $1 million in compensation will be subject to a 20% excise tax.
Minor Changes to Qualified Plans
While the 401(k) limits were not changed, some other changes would be made to qualified plans. These include: lowering the age for in-service distributions for defined benefit pension plans and governmental plans to age 59½, the same as defined contribution plans; elimination of the 6 month suspension from participation in a 401(k) plan after receiving a hardship distribution; and expansion of the time period to repay loans before being taxed as a distribution.
Other Fringe Benefit Changes
Beginning in 2018, many fringe benefits will no longer be able to be paid with pre-tax dollars or be excluded from tax. These include: the pre-tax treatment of expenses under a dependent care assistance flexible spending account is repealed; qualified tuition reimbursement plans providing pre-tax tuition assistance to employees are repealed; Likewise, the following benefits are no longer excluded from income: transportation fringe benefit plans, adoption assistance plans, qualified moving-expense reimbursement arrangements, employee achievement awards, and Archer medical savings accounts.
Again, the proposals are simply a bill and changes are likely as the Senate will have to pass its version and any differences will have to be reconciled before the bill is passed and sent to the President for signature. We will continue to monitor the progress of the bill and will cover it in our HR Update on December 6, details below.
Dec. 6, 2017, 8AM, HR Update Seminar: What Employers Need to Know in 2018
JOIN US FOR BREAKFAST. GET AHEAD OF THE CURVE. Murphy Austin's annual complimentary update breakfast seminar provides the latest information about changes in the law that will affect your company the most in 2018. Download the seminar flyer for more information. Click here to register now.