Murphy Austin Adams Schoenfeld LLP
J. Scott Alexander, Managing Partner
555 Capitol Mall, Suite 850
Sacramento, CA 95814
We previously reported how the initial Tax Reform bill introduced in the House of Representatives contained dramatic changes to the taxation of deferred compensation that would drastically affect executive compensation. However, the provisions were dropped by amendment in committee but re-surfaced in the Senate’s version of tax reform legislation.
Since then, the House approved its version of the bill on November 16. Additionally, the Senate dropped the deferred compensation changes by amendment in their current version of the bill. However, other differences between the House and Senate versions regarding deferred compensation and employee benefits still remain. . However, amendments can still be made when the full Senate debates the bill. If the Senate passes its version with differences from the House bill, the differences will have to be reconciled by a joint committee and then the bill sent back to both houses to be passed before going to the President.
Individual Health Mandate Repealed. Probably the most controversial difference between the two bills is that the Senate bill now repeals the Affordable Care Act’s individual health coverage mandate that requires most individuals to have health insurance coverage or pay a penalty. Repealing the mandate may save people who don’t purchase health insurance the penalty but could cause a dramatic increase for indviduals who do purchase insurance from the public exchanges. The reason being that healthy individuals could opt out of coverage leaving the exchanges covering only unhealthy people causing premiums to rise.
Family Medical Leave Act Credit. The Senate Bill also creates a partial tax credit for employer who pay wages to employees on family medical leave during 2018 and 2019 if the rate of pay is at least 50% of the wages normally paid to the employee. The credit is 12.5% of the first 50% of normal wages paid and increases .25% for each percentage point the pay rate exceeds 50% up to a maximum of 50% credit.
Given the current state of Washington, D.C., whether tax reform will pass is anyone’s guess. The Senate will be addressing their bill after the Thanksgiving break. We will continue to monitor developments as they occur and will address the affects of tax reform on employee beneftis at our upcoming HR Update seminar on December 6. Download the seminar flyer for more information. Click here to register now.
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.
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