IRS Provides New 409A Guidance: New Proposed Regulations Provide Additional Clarity, Warn of Abusive Practices and Present Planning Opportunities

On June 21, 2016 the IRS issued proposed regulations to modify and clarify existing regulations under Section 409A of the Internal Revenue Code. Many of these changes resulted from practitioner comments and the IRS’ experience with Section 409A after issuing the final regulations. Overall, most of the proposed changes are favorable, and may provide some planning opportunities.

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IRS Issues Regulations Affecting Compensation Arrangements at Tax-Exempt Organizations

On June 21, the IRS issued long awaited proposed regulations under Section 457 of the Internal Revenue Code that affect a broad range of compensation arrangements at tax exempt organizations. If a compensation arrangement is subject to Section 457(f), the employee is immediately taxed upon earning a vested right to receive “deferred compensation” that might not be paid until years later. These regulations address important issues under Section 457(f) that were identified by the IRS back in 2007, including whether severance pay is subject to Section 457(f), if changes to a vesting schedule could delay when deferred compensation is taxable and if covenants not to compete would be respected as bona fide vesting conditions

A severance pay arrangement will be treated as deferred compensation under Section 457(f) under the proposed regulations unless (1) the total amount of severance pay is limited to two times total annual compensation; (2) payments are completed within two full calendar years following termination of employment; and (3) the events triggering the right to severance pay are limited to a bona fide involuntary termination, which may include certain types of “good reason” terminations of employment by an employee and failure to renew an employment agreement.

There have been questions as to whether vesting conditions imposed after a compensation arrangement has been established will be respected for tax purposes. In that event, the time for income taxation under Section 457(f) is delayed until the new vesting requirement is met. If certain requirements are met, the proposed regulations provide that additional vesting conditions will be taken into account when determining the time of taxation under Section 457. These conditions include that the deferred amount subject to a new vesting date has to be more than 25 percent greater than the old amount with the former vesting date, the delay in vesting has to be at least two years (except in the case of death, disability or a qualifying involuntary termination), and the change in vesting is entered into sufficiently in advance of the original vesting date under special timing rules.

The proposed regulations also allow for noncompetes to be used as vesting conditions under Section 457(f), but only if:

  • The right to payment is expressly conditioned on satisfying the noncompete;
  • The noncompete has to be evidenced by an enforceable written agreement between the employer and employee;
  • The employer has to make reasonable ongoing efforts to verify compliance with the noncompete;
  • When the noncompete agreement becomes binding, the facts and circumstances have to show that both the ability to compete and the harm of competition are genuine and substantial;
  • The noncompete must be enforceable under applicable law; and
  • The employer must show that the likelihood of enforcement of the noncompete is substantial.

There had been concern that the IRS might not allow any form of noncompete to be a substantial risk of forfeiture under Section 457(f).

These regulations are generally scheduled to go into effect as of January 1 of the calendar year after being finalized. These rule changes under Section 457(f) will affect amounts deferred amounts in earlier years that were not taxed before the Section 457(f) effective date. The IRS has stated that no implication is intended regarding the proper interpretation of Section 457(f) for prior periods. The IRS will be accepting comments on the proposed regulations until early this fall. Taxpayers may rely on these proposed regulations until the applicability date—doing so is likely to be an appropriate compliance approach in many situations.

Click here for a copy of the Section 457 proposed regulation. We will be issuing a detailed review of these regulations. In the meantime, please contact one of the authors or your regular McDermott Will & Emery lawyer if you have questions about the Section 457 regulations.

New Policies and Practices for Hiring Expatriates in China

With more and more expatriates working in China, and some even applying for long-term residence permits, complicated applications procedures have been deemed an impediment to attracting more talented expatriates. In later 2015, for the purpose of facilitating the establishment of the “technology innovation center,” Shanghai issued several local policies encouraging more senior level expatriates to work in Shanghai. In March 2016, a similar set of local policies were issued in Beijing after those policies were successfully implemented in Shanghai. The following provides a brief overview of the new policies and practices for expatriates working in China.

Easier Procedures for Senior Level Expatriates to Apply for Working Permits

Generally, an expatriate must meet the following requirements to successfully acquire a working permit in China: (1) be between at 18 and 60 years old (60 years old is the general retirement age in China); (2) have working experience (in practice, at least two years of full time working experience is required); (3) have no criminal record; and (4) have received a job offer from a Chinese entity.

According to new local policies, if an expatriate is a “senior level expatriate,” the expatriate may apply for a work permit in China even if the expatriate is older than 60 years of age. Moreover, he or she may be issued a special “R visa” instead of a normal “Z visa” for working in China. Finally, the corresponding procedures for applying for a long-term residence permit in China will also be simplified for expatriates falling in this category.

As for the definition of “senior level expatriate,” the two policies provide several examples: (1) one who has received famous international awards or received national level awards from China; (2) a famous professor or scholar; (3) an individual who holds a senior level management position in headquarters of foreign-invested companies.

In addition, the “working experience” requirement has changed. Previously, newly graduated foreign students had no chance of acquiring a work permit in China. According to these two policies, those foreign students who received master’s degrees or above in China can now apply for a work permit in designated areas, such as the free trade zone of Shanghai and Zhong Guan Cun, a technology hub in Beijing that is known as the “China’s Silicon Valley”.

No Work Permit Is Required for Short-Term Work in China

Under the new policies, another change is that an expatriate may not be required to apply for a working permit in China if the total working period is within three months and the short-term work is in the following areas: (1) visiting a Chinese partner to complete certain technical, scientific research, management or guidance work; (2) conducting training in a sports agency in China; (3) shooting films and fashion shows; (4) engaging in foreign-related commercial performance; and (5) other circumstances identified by the department of human resources and social security.

Previously, an expatriate would go through “4-step” procedures for working in China legally: (1) (the employer) applies for a government approval for hiring expatriates; (2) the expatriate applies for work visa (Z visa) by submitting the government approval; (3) the expatriate applies for working permit from labor authority; and (4) the expatriate applies for residence permit with local police.

Now, if an expatriate conduct qualified “short-term work” in China according to the new policies the “working permit” in the third step is not required and the procedures are simplified to “3-step”. Furthermore, if the “short-term” work will be completed within one month, the “residence permit” in the fourth step mentioned above is also not required and the procedures could be further simplified to “2-step”.


In conclusion, in terms of the labor market, China is stepping into a complicated era. On the one hand, new technology developments and the integrated global economy make it necessary to further open its labor market to attract more talented expatriates. On the other hand, the transition of the Chinese economy also means change in the domestic labor market with a lot of efforts to be made in creating more job opportunities. The policies mentioned above are in their two-year pilot programs, which are only implemented in Beijing and Shanghai.  Nevertheless, the trend of more expatriates working in China and more regulations being implemented in this area can be anticipated.

EEOC Model Wellness Program Notice

Today, the EEOC issued its model notice to be used in conjunction with wellness programs that ask disability related inquiries or require medical examinations. The notice requirement applies prospectively to employer wellness programs as of the first day of the plan year that begins on or after January 1, 2017, for the health plan used to determine the level of incentive permitted under the regulations. An employer’s HIPAA notice of privacy practices may suffice to satisfy the ADA notice requirements if it contains the ADA-required information. However, given the timing requirements for distribution of the HIPAA notice and the fact that the EEOC rules apply to wellness programs outside of the group health plan, a separate ADA notice may be required.

Questions and Answers: Sample Notice for Employees Regarding Employer Wellness Programs

Sample Notice for Employer-Sponsored Wellness Programs

EEOC Releases Final Wellness Program Regulations Related to the Genetic Information Nondiscrimination Act and the Americans with Disabilities Act

The US Equal Employment Opportunity Commission (EEOC) recently released final wellness plan regulations providing guidance on how employer wellness programs may comply with Title I of the Americans with Disabilities Act (ADA) and Title II of the Genetic Information Nondiscrimination Act of 2008 (GINA). The EEOC made it very clear that compliance with the HIPAA nondiscrimination rules does not necessarily mean that an employer is in compliance with the final wellness program rules under the ADA or GINA.

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Developing and Implementing an Effective Telemedicine Informed Consent Form

The search by consumers, payers and providers for more efficient, effective and convenient care delivery models has led to an explosion of technological innovation in the health care sector. This explosion has supported the increased use of telemedicine by providers to reach patients who were previously out of reach, and to provide more timely and cost-effective care.

With the use of telemedicine technologies comes a responsibility on the part of providers to educate and inform patients on the benefits, and more importantly, on the risks associated with receiving care via telemedicine. Like any other care setting, compliance with this responsibility serves the dual purpose of providing consumers with the information needed to make an informed decision about their care, but also mitigates the provider’s potential liability exposure from medical malpractice claims.

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401(k) Plan Sponsors and Fiduciaries Face an Alarming Number of Stable Value Fund and Other Class Action Lawsuits

In the last several months, plaintiffs have filed multiple class action lawsuits against plan sponsors, plan fiduciaries and stable value fund providers. These lawsuits, which have involved 401(k) plans sponsored by large corporations, have alleged that:

  1. Plan fiduciaries breached their fiduciary duties under the Employee Retirement Income Security Act of 1974, as amended (ERISA), by investing in poorly performing stable value funds, failing to monitor the investments during periods of poor performance and high fees, and improperly benchmarking stable value funds against other lower cost and higher yielding investment options; and
  2. Stable value fund providers violated their fiduciary duties under ERISA by offering imprudent, low-yielding investments and charging inappropriately high fees.

These lawsuits have also included allegations that plan fiduciaries breached their fiduciary duties of loyalty and prudence under ERISA by:

  1. Causing plans to pay unreasonably high investment management fees when compared to available lower-cost alternatives such as institutional share classes, collective trusts and separate accounts; and
  2. Failing to monitor the asset-based and other fees charged by plan record keepers (revenue sharing) to account for economies of scale. Some complaints have alleged that adequate monitoring should include a periodic competitive bidding process.

Plan sponsors and plan fiduciaries face a particularly difficult bind with respect to the offering of a stable value investment option as, ironically, they have been challenged for offering stable value funds and equally fornot offering them.  For example, in addition to the stable value fund allegations described above, plaintiffs have sued some plans for failing to offer stable value funds, because money market funds—a fixed income investment alternative—have produced historically low returns. In fact, such lawsuits note that most large 401(k) plans offer stable value funds and criticize plan sponsors for their failure to conform.

As a result of this wave of lawsuits, plan sponsors and plan fiduciaries should evaluate the process they use to decide to invest in stable value funds, as well as the process they use to monitor investment management and recordkeeping fees more generally. Plan sponsors and plan fiduciaries must carefully select expert investment advisers and understand the expert’s advice before applying it.  Plan fiduciaries that do not currently offer a stable value investment option should examine their fund lineups to ensure that the lineups provide an adequate fixed income investment at a reasonable cost to plan participants.

In addition, plan sponsors and plan fiduciaries should establish and maintain an investment policy, which they should use to rigorously monitor investment options and related fees.  Plan fiduciaries should also document the process for making fiduciary decisions and be able to demonstrate that they considered quality, service and price in selecting and monitoring investment options. This documentation of the investment selection and monitoring process is crucial to defending against the recent onslaught of stable value fund and other related lawsuits.

HHS Issues Final ACA Nondiscrimination in Health Programs and Activities Regulation

On Friday, May 13, 2016, the US Department of Health and Human Services Office for Civil Rights finalized regulations that provide explicit protections from discrimination on the basis of gender identity in health care and insurance under Section 1557 of the Affordable Care Act.

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Webinar: New DOL Guidance on Joint Employment: Navigating Heightened Scrutiny and Minimizing FLSA Liability

Wednesday, June 1, 2016
1:00-2:30 pm EDT

Join McDermott partner Kristin E. Michaels at this CLE webinar, which will review the far-reaching impact of the Department of Labor’s (DOL) recent guidelines greatly expanding joint-employer status.

The discussion will include the agency’s analysis of horizontal and vertical joint employment and the factors that point to joint-employer liability for wage and hour violations, as well as offer practical and strategic approaches for structuring agreements with subcontractors, independent contractors and contingent workers to minimize the risk of employer or joint-employer liability for FLSA violations.

To register, please click here.

Federal Court Strikes Down ACA Cost Sharing Reduction Payments

Last week, a federal district court ruled that US Congress did not appropriate funds for the cost-sharing reduction subsidies in the Affordable Care Act. The court stayed the decision pending an anticipated appeal to the US Court of Appeals for the District of Columbia Circuit.

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