The final date of the transition rules under Section 409A for deferred
compensation plan is December 31, 2008. A split-dollar life insurance
arrangement (“SDA”) may provide for deferred compensation that is subject to
Section 409A. If an SDA is subject to Section 409A, it is very likely that the
SDA will need to be revised by December 31, 2008 to comply under Section 409A.
This McGuireWoods client alert is a reminder of the approaching deadline.
Newer Split-Dollar Life Insurance Arrangements
An SDA that has been put in place after 2004 should have taken Section 409A
into consideration from the beginning. As with most SDA tax issues, there is
different treatment under Section 409A of endorsement versus collateral
Under an endorsement SDA, the policy owner is currently taxed on the economic
benefit. However, other features of the SDA can create deferred compensation,
such as a right to access the cash surrender value. Provisions that create
deferred compensation need to comply with the Section 409A requirements, such as
payments only being available on a permissible event like separation from
service. An endorsement-style SDA that only provides for death benefits is
excludable from Section 409A as a death-benefit plan.
For a collateral assignment SDA, the treatment of the premiums as a loan
would generally avoid Section 409A implications. However, the employer can
create Section 409A issues by waiving, canceling or forgiving the loan.
SDAs Grandfathered under Split-Dollar Rules
The tax rules for SDAs were substantially changed in 2003 and many SDAs are
grandfathered under the prior law. That grandfathering does not necessarily mean
that the SDA is also grandfathered for Section 409A purposes. If premium
payments have been made after 2004, a portion of the SDA may be subject to
Whether benefits under an SDA are grandfathered for Section 409A purposes is
determined under the normal Section 409A grandfathering rules. To be fully
grandfathered under the Section 409A rules, all benefits must have been earned
and vested (or be subject to a legally binding right with no risk of forfeiture)
before 2005 and the SDA cannot be materially modified after October 3, 2004. For
example, if future premium payments are contingent on the insured continuing in
employment after 2004, the SDA would not be fully grandfathered for Section 409A
If an SDA is not fully grandfathered for Section 409A purposes, the SDA must
be amended if necessary to comply with Section 409A by December 31, 2008. In
most cases, the Section 409A amendments can be made without losing the
grandfather treatment under the SDA tax rules.
McGuireWoods' Employee Benefits Practice
Employee Benefits lawyers provide comprehensive employee benefits services
to a wide range of clients, including publicly held companies, small and large
privately held companies, tax-exempt organizations and educational institutions.
McGuireWoods' Private Wealth Services
Private Wealth Services is one of the strongest and largest groups of estate
planning professionals in the country. The team's experience and size puts it on
the cutting edge of estate planning, tax and probate issue development and
McGuireWoods' Fiduciary Advisory Services
Services, a service of McGuireWoods' Private Wealth Services Group, assists
financial institutions in a wide array of areas in which questions or concerns
may arise. This includes advising corporate trustees on how to avoid litigation
before it arises and how to address litigation when it does arise.
For additional information on the effect of Section 409A on split-dollar
arrangements, please contact us.