For public companies, it is very important that certain compensation to covered employees meet the requirements of being "performance based" compensation in order to avoid the $1 million deduction limitation imposed by Code 162(m). Code 162(m) regulations have stated that compensation would not be considered performance based if the employee can receive all or part of the compensation regardless of whether the requisite performance goal is obtained. Those regulations have also provided that compensation would not fail to be performance based compensation merely because the compensation would be payable upon death, disability or change of ownership or control, although compensation actually paid for those reasons prior to the attainment of the performance goal would not satisfy the performance based requirement.
Many individuals may have interpreted this last part of the regulations as saying that compensation could be payable upon other stated events beyond death, disability or change of ownership or control (i.e., not interpreting the regulations as providing exclusive situations, but, rather, as providing example situations), with the same result that the compensation could be considered as performance based, although compensation actually paid for those other stated events prior to the attainment of the performance goal would not satisfy the performance based requirement.
The IRS has recently released a private letter ruling that implies that this is not a correct interpretation of the regulations. In PLR 200804004 (copy below) , the IRS holds that where compensation is payable upon termination by the employer without cause or by the employee with good reason, such compensation cannot be performance based compensation because the payment of the compensation is allowed beyond situations involving death, disability or change of ownership or control (i.e., the limited situations allowed by the regulation).
Accordingly, public companies may wish to re-examine their arrangements that provide for performance based compensation in light of this development to ensure that compensation that is intended to be performance based will not fail to satisfy the necessary requirements because it is made available outside of situations involving death, disability or change of ownership or control.
If you have any questions about this "Tip of the Week," please contact the author, Bruce Wynn, at 404.504.7694 or BWynn@mmmmlaw.com.
