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December 20, 2018 The Tax Lawyer

Section 4960: Unpleasant Surprises and Unanswered Questions for Tax-Exempt Entities with 457 Plans

Vol. 72, No. 1 - Fall 2018

By Brian Gallagher


     In the final days of 2017, Congress passed the Tax Cuts and Jobs Act, which was heralded by many as a sweeping overhaul of enormous portions of the Code. Among its many changes is a new section 4960, which imposes an excise tax on amounts deemed to be excess tax-exempt organization executive compensation.

     Based on a cursory review of the new provision, many tax-exempt employers have incorrectly concluded that they will not be affected, because either they misunderstood which tax-exempt entities are covered by section 4960 or they assumed that section 4960 is only relevant to entities paying salaries in excess of $1 million. Consequently, many employers may be blindsided by the realization that they may indeed owe section 4960 taxes—at least periodically—and that they will need to begin tracking covered employees immediately, even if no tax will be owing for the foreseeable future.

     One way in which the new excise tax can sneak up on employers is through accumulations in arrangements subject to section 457, particularly section 457(f). In many circumstances, amounts payable pursuant to these arrangements are counted under section 4960, and—critically—there is no transition relief for amounts accumulated prior to passage of the legislation. Understanding section 457, and the interaction between such arrangements and new section 4960, is critical to advising employers on the impact of these new rules.

     This Article examines new section 4960, reviews the application of section 457, and explains how the interplay between these sections can present an unpleasant surprise for unsuspecting tax-exempt employers. In addition, this Article raises a number of questions regarding open issues on which guidance is sorely needed.

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