Non-Qualified Deferred Compensation: When Can You Make Distributions? (Part 2)

Hale Stewart, Tax Advisor

As I noted in my previous post, the NQDC statute specifically states there are six events when a NQDC plan can make a distribution, one of which is when the service provider “separates from service,” which is defined in the Treasury Regulations as:

An employee separates from service with the employer if the employee dies, retires, or otherwise has a termination of employment with the employer.

As with other aspects of this statute, there is little room for a liberal legal interpretation of the definition.

The statute further defines “termination of employment” as,
Whether a termination of employment has occurred is determined based on whether the facts and circumstances indicate that the employer and employee reasonably anticipated that no further services would be performed after a certain date or that the level of bona fide services the employee would perform after such date (whether as an employee or as an independent contractor) would permanently decrease to no more than 20 percent of the average level of bona fide services performed (whether as an employee or an independent contractor) over the immediately preceding 36-month period (or the full period of services to the employer if the employee has been providing services to the employer less than 36 months).

The statute provides 2 tests.  Either there is a complete termination of employment or an 80% reduction in the amount of work performed (as compared to the preceding three years) by the service provider.  This is one of the few areas where a bit of definitional “play” exists in the statute.

Finally, the statute provides the following, non-exclusive set of factors to use in a “facts and circumstances” determination as to whether termination has in fact occurred:

1. Whether the employee continues to be treated as an employee for other purposes (such as continuation of salary and participation in employee benefit programs),
2. Whether similarly situated service providers have been treated consistently, and
3. Whether the employee is permitted, and realistically available, to perform services for other service recipients in the same line of business.

Have a question? Contact Hale Stewart 

Your comments are welcome!

Mr. Stewart has a masters in both domestic (US) and international taxation from the Thomas Jefferson School of Law where he graduated magna cum laude. Is currently working on his doctoral dissertation. He has written a book titled US Captive Insurance Law, which is the leading text in this area.

He forms and manages captive insurance companies and helps clients in international tax matters, US entity structuring, estate planning and asset protection.

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