Final 415 Regulations Definition of Post-severance Compensation
Rev. 10/05/07, E-mail Alert 2007-13

Note: This article has been updated by our article on April 25, 2008

Post-severance Payment Issues
The post-severance payment rules contained in the Final Code Section 415 regulations generally apply to limitation years beginning on or after July 1, 2007. Thus, for a plan with a calendar-year limitation year, the effective date is January 1, 2008; an off-calendar-year plan with a limitation year of July 1, 2007 to June 30, 2008, is already required to follow these rules.

Employers were able to use the post-severance definition contained in the proposed regulations until the final rules were issued. The final 415 regulations contained significant changes to the proposed post-severance compensation rules, so both rules are presented below.

Proposed 415 Regulations: Post-severance Compensation Rules
The proposed regulations provided specific guidelines regarding when amounts received after severance from employment would be considered “compensation” for 415 purposes. Under the proposal, post-severance payments were included in compensation if they were paid within 2½ months following severance from employment, and they were either:

1. Payments that would have been paid to the employee had the employee continued in employment with the employer and were regular compensation for services during the employee’s regular working hours, compensation for services outside the employee’s regular working hours (such as overtime or shift differential), commissions, bonuses, or other similar compensation; or
   
2. Payments for accrued bona fide sick, vacation, or other leave if the employee would have been able to use the leave if employment had continued.
   

Final 415 Regulations: Post-severance Compensation Rules
The final regulations expand the deadline for making post-severance payments.

Paid by the later of 2½ months or the end of the limitation year after severance. For retirement plan purposes, post-severance payments must be made by the later of 2½ months after severance from employment or by the end of the limitation year that includes the date of severance from employment.

Compensation that would have been received is required to be included. Just as with the proposed regulations, the final regulations require post-severance payments of amounts that would have been received if employment had continued to be included in the plan definition of compensation if paid within the appropriate time frames. Unlike in prior guidance where the inclusion of post severance was optional, under the final regulations it is now required.

Employer optional amounts. Post-severance payments of accrued bona fide sick, vacation, and other leave that are paid within the above time frame are not included in compensation for plan purposes unless the plan specifically includes such payments. Thus, an employer may, by plan design, exclude this type of post-severance compensation from the definition of compensation under the plan document. In addition, unfunded nonqualified plan payments that would have been received had employment continued may be included as post-severance compensation. The addition of the nonqualified plan provision was a surprise for many practitioners; since these plans only benefit a select group of management and highly compensated employees.

Coordination with USERRA. Post-severance payments to an individual who is performing qualified military service (as defined in Section 414(u)) is counted as Section 415 compensation. This applies to the extent such payments do not exceed the amounts the individual would have received had the individual continued to perform services for the employer rather than entering qualified military service (known as differential pay). Such payments are not limited to those made by the end of the 2½-month period or the end of the limitation year period.

Permanent disability. Post-severance payments are also included in the definition of Section 415 compensation for an individual who terminates employment due to total disability. Such payments are also not limited to those made by the end of the 2½-month period or the end of the limitation year period.

Note: In addition, a governmental plan may provide that the calendar year that includes the date of severance from employment be substituted for the limitation year that includes the date of severance from employment for this purpose.

Plan amendment timing. Since the final regulations are effective for limitation years beginning on or after July 1, 2007, calendar year plans must be amended by the end of the 2008 limitation year. Since the timing will probably coincide with the IRS’s formal approval of the new preapproved defined contribution document, it appears that an execution of both a restatement onto the EGTRRA document and a snap-on Section 415 amendment will be required. We will keep you posted on this. Unfortunately, we are not allowed to include the Section 415 amendments in the EGTRRA restatements; because the language was not on the 2004 Cumulative List.

Bill Grossman, QPA