Tax Reform’s Impact on Employee BenefitsPublications - Client Alert | December 20, 2017
On December 20, 2017, Congress passed into a law a sweeping tax reform package entitled the “Tax Cuts and Jobs Act” (the “Act”). The Act makes significant changes to employee benefit plans by amending certain sections of the Internal Revenue Code (the “Code”). President Trump is expected to sign the Act into law in the coming days. The following is a summary of the key provisions that will be amended under the Act.
Changes to Deductions for Executive Compensation: Under the Code, publicly held corporations generally cannot deduct more than $1 million in compensation paid to certain executives in a single taxable year. Previously under the Code, there were two exceptions: (1) for compensation paid on a commission basis, and (2) for performance-based compensation. The Act repeals these exceptions effective for taxable years beginning after December 31, 2017. This repeal, however, does not apply to compensation paid under written binding contracts in effect as of, and not materially altered after, November 2, 2017.
Excise Tax on Non-Profit Executive Compensation Over $1 Million: Tax-exempt organizations are now subject to a tax of 21% on any amount over $1 million paid to the organizations’ five highest-paid employees (including former employees). The tax also applies to tax-exempt organizations making parachute payments contingent upon the employee’s separation from employment and with a present value equal to or greater than three times the employee’s base compensation. This provision is effective for taxable years beginning after December 31, 2017.
Qualified Equity Grant: The Act creates a new kind of employee stock plan, under which certain nonexecutive employees of privately held companies may defer taxation on certain stock options or restricted stock units for a maximum of five years. Employees can take advantage of qualified equity grants exercised after December 31, 2017.
Nonqualified Deferred Compensation Unchanged: Early proposals in both the House and Senate would have effectively eliminated nonqualified deferred compensation plans by 2025. These provisions affecting nonqualified deferred compensation plans were eliminated in the Act.
Retirement Plans and IRAs
Extension of Period for Rollovers of Loan Offset Amounts: The Act allows for an extended period for the rollover of plan loan offset amounts. Currently, if a participant takes out a plan loan, but then fails to meet the loan repayment terms due to a separation from service or plan termination, the outstanding amount of the loan may be treated as distributed, and the amount of the participant’s accrued benefit will be offset to account for this amount. Under the Act, this offset amount will not be included in the participant’s income, provided the amount is rolled over to an eligible account before the due date of the tax return for the year in which the amount was treated as distributed. This provision is effective for plan years beginning after December 31, 2017.
Repeal of the Recharacterization of Roth IRA Contributions: Under the Code, an individual may convert certain funds in a traditional IRA to a Roth IRA. Under prior law, taxpayers could recharacterize (i.e., “undo”) this conversion until the due date for their tax returns for the taxable year in which the initial conversion occurred. Effective for taxable years beginning after December 31, 2017, individuals may no longer recharacterize these conversions.
Health and Welfare
Elimination of Affordable Care Act Individual Shared Responsibility Payment: The Act reduces the individual penalty for not purchasing creditable insurance to zero percent, effectively eliminating what has become known as the “Individual Mandate” of the Affordable Care Act effective for months beginning after December 31, 2018.
Creation of Business Tax Credit for Paid Family and Medical Leave: For the taxable years of 2018 and 2019, employers may receive a credit in an amount between 12.5% and 25% of paid family and medical leave. To be eligible for the credit, the employer generally must provide at least two weeks of paid family and medical leave to its full-time employees and must pay at least 50% of the wages normally paid to an employee for time taken for family and medical leave. Employers cannot receive a deduction for paid family and medical leave paid to employees who received over $72,000 in compensation in the previous year or employees who have not been employed by the employer for one year or more. Further, employers cannot claim a credit for paid family and medical leave required to be provided under a state or local law. This provision will be effective for family and medical leave paid after December 31, 2017.
Elimination of Certain Fringe Benefit Exclusions and Deduction:
The employer deduction is repealed for amounts paid for qualified transportation fringe benefits such as transit passes, qualified parking, or bicycle-commuting reimbursements except as necessary to ensure employee safety. This deduction can no longer be used for amounts paid or incurred after December 31, 2017.
For taxable years beginning in 2018 – 2025, employees may no longer exclude from income employer-provided qualified moving expense reimbursements (with an exception for active duty members of the U.S. Armed Forces).
Also for taxable years beginning in 2018 – 2025, employees may no longer exclude employer provided qualified bicycle-commuting reimbursements.
Employers should prepare for these upcoming changes to their employee benefit plans and compensation practices. Employers should consider their current compensation structure in order to avoid excessive taxation on executive compensation and to take advantage of the paid family and medical leave tax credit. If you have any questions regarding tax reform, please contact a member of our Employee Benefits Practice Group. For more information concerning our practice, please visit us at www.KutakRock.com.
If you have any questions regarding the Regulations or would like assistance amending your plans or procedures to comply with the Regulations, please contact a member of our Employee Benefits Practice Group.