For executives who have been deferring parts of their compensation, 2010 may be the time to rake in their winnings. While it’s rarely advantageous to pay taxes sooner rather than later, the likely expiration of former President Bush’s tax cuts at the end of next year could make doing so a relative bargain. The top individual tax rate is scheduled to increase in 2011 from 35% to 39.6%, as it was in 2001 prior to the cuts. While Congress could still maintain the lower rates, many think it’s unlikely lawmakers will do so.
“It’s a bit of a twist: people usually try to defer compensation as long as possible, but now you see many evaluating how to accelerate it as much as possible because of the fear the tax situation will become much worse,” says Andrew Liazos, partner and head of the executive-compensation group at law firm McDermott, Will & Emery.
Although many executives have already completed their paperwork giving the go-ahead to deferrals, it may not be too late for them to change their mind and take all of their salary and incentive compensation in 2010. Liazos explains that the elections may not be binding until the last day of 2009, depending on the language of the contract, so they could be changed if necessary.
Some companies are even planning to do away with their nonqualified deferred-compensation plans entirely, in part for tax reasons. While the practice is far from common, at least two public companies — AECOM Technology and Medquist — have taken this step in recent weeks, according to their regulatory filings. Liazos says he is currently working with two companies considering this option.
But the clock is ticking on that decision as well. In order to pay out accumulated compensation in 2010, companies must liquidate the plan (and all related plans) by the end of December, since Internal Revenue Service laws require a lag of at least 12 months and one day between shutdown and payout, according to Liazos.
The main drawback to liquidating the plans is that companies may not establish another deferred-compensation plan for at least another three years, according to IRS rule 409(A). For executives who expect tax rates to remain high, that might not be too high a price.
Public perception, however, may be a larger stumbling block. George Paulin, chairman and CEO of compensation consultancy Frederic W. Cook, says “a couple” of his public-company clients briefly considered such an idea but quickly rejected it. He says executives were concerned that liquidating a plan could send the wrong message: “How does it look if we’re only doing it so that people will save money on taxes?”