Covered Employees under IRC 162(m)

Summary

IRS issued Notice 2007-49 6.04.07

Interpretive guidance on identification of covered employees for purposes of IRC §162(m)(3), which was prompted by recent changes to SEC executive pay disclosure rules

Definition of covered employees in IRC §162(m)(3) is tied to executive pay disclosure rules under Exchange Act
Definition of named executive officers in Regulation S-K, Item 402(a)(3) was revised in 2006

IRS interpretation of covered employees includes

Principal executive officer (within meaning of amended SEC disclosure rules); and
Any employee (other than principal executive officer or principal financial officer) whose total compensation must be reported to shareholders under Exchange Act by reason of such employee being among three highest compensated officers for taxable year

Definition does not include individuals for whom SEC executive pay disclosure is required on account of individual being principal financial officer

Background Information

IRC 162(m) limits deductibility of remuneration in excess of $1 million paid to covered employees of public companies
IRC 162(m)(3) defines covered employees as any employee of the taxpayer if

As of the close of the taxable year, such employee is the chief executive officer of the taxpayer or is an individual acting in such a capacity, or
The total compensation of such employee for the taxable year is required to be reported to shareholders under the Securities Exchange Act of 1934 by reason of such employee being among the 4 highest compensated officers for the taxable year (other than the chief executive officer).

Section 1.162-27(c)(2)(ii) of IRS regulations provides that such status is determined pursuant to SEC executive pay disclosure rules

Prior to 2006 revisions, definition of covered employees for purposes of IRC §162(m) matched definition of named executive officers for purposes of SEC executive pay disclosure rules
Under new rules, named executive officers include 1) company's principal executive officer, 2) company's principal financial officer, and 3) company's three most highly compensated officers other than PEO and PFO
IRS and SEC definitions no longer match -- definition of covered employee includes one officer based on position (CEO) and four officers based on compensation, while definition of named executive officer now includes two officers based on position (PEO and PFO) and three officers based on compensation

Principal executive officer (within meaning of amended SEC disclosure rules); and
Any employee (other than principal executive officer or principal financial officer) whose total compensation must be reported to shareholders under Exchange Act by reason of such employee being among three highest compensated officers for taxable year

Covered employee does not include those individuals for whom disclosure as named executive officer is required on basis of individual being principal financial officer (within meaning of amended disclosure rules)

Published by IRS in 2005, and available on IRS website
Non-comprehensive list of questions for examining agent to ask in initial interview

Planning Considerations

in future, congressional amendments to IRC §162(m) may expand group of covered employees

Named executive officers NEOs include:

Individuals for whom disclosure would have been required but for the fact that they were no longer serving as executive officers at the end of the last completed fiscal year
Whose total compensation for last fiscal year
exceeds $100,000

Revised as part of 2006 changes to executive compensation disclosure rules

Commentary

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