Section 409A in 2009 and Beyond...

Posted by Seth I. Corbin, Fox Rothschild LLP

Now that the rush to amend all existing deferred compensation plans to comply with Section 409A has passed, the buzz surrounding Section 409A has quieted significantly. Although the transition period to bring documents into compliance ended on December 31, 2008, the same Section 409A issues employers and employees have struggled with for the past several months extend into 2009 and are likely here for many years to come. Namely, deferred compensation plans must continue to comply with the onerous Section 409A requirements, in both form and operation, in order to avoid the tax and penalties associated with any violation.


Section 409A implicates a variety of deferred compensation arrangements, including severance pay agreements and employment agreements that provide for severance, salary continuation, separation pay, and even bonuses. As many businesses are forced to consider workforce reductions in 2009, it is imperative that employers remain mindful of Section 409A. A failure to comply with Section 409A could result in the immediate recognition of income to the employee, a 20% excise tax penalty, and IRS interest. Additionally, employers have enhanced reporting and withholding responsibilities.


The final regulations under Section 409A apply to severance plans and refer to such plans as “separation pay plans.” Although the Section 409A regulations exclude certain separation pay plans from coverage under Section 409A, each separation pay plan must be carefully examined on a case-by-case basis to determine whether Section 409A applies and, if so, whether the plan should be revised to comply with its requirements.


Section 409A generally prohibits the acceleration of payments, the discretion to alter a payment schedule, and limits offsets against payments under a separation pay plan. These prohibitions can often be avoided with careful drafting of separation pay plans and without disrupting the original business intent of the parties involved. Additionally, reimbursements under a separation pay plan of an employee’s deductible medical expenses are excluded from Section 409A to the extent the right to reimbursement applies during the period when the employee would be entitled (or would, but for such plan, be entitled) to COBRA continuation coverage if the service provider elected the coverage and paid the applicable premiums.


In a bit of good news, the IRS recently announced a limited correction program for inadvertent and unintentional Section 409A operational failures. The correction program permits self-correction with reduced penalties for such operational failures as erroneous payments of deferred compensation and impermissible acceleration of payments. While not all failures may be corrected using this program, it remains a valuable option if and when Section 409A errors are discovered.


For more detailed on the status of 409A see our recent Alert:




Significant Changes to COBRA Enacted

The recently enacted American Recovery and Reinvestment Act (economic stimulus package) includes significant changes to how employers must offer continuation of health benefits under COBRA and state continuation laws (mini-COBRA)  to employees who were involuntarily terminated between September 1, 2008 and December 31, 2009.  

Employers now must subsidize the premium payments for qualified beneficiaries for 9 months.  The employer will pay 65%; the employee 35%.   If the employer is voluntarily paying a portion of the COBRA premium already, then the employer must pay 65% of the balance.  The subsidy will begin with the first premium payment following the Act's enactment on February  17, 2009 - generally March 1.  The subsidy ends when COBRA coverage would otherwise end.

Employers can take a tax credit for the subsidy, but not for COBRA payments they are already voluntarily paying.

Taxpayers whose federal modified adjusted gross income is more than $145,000 ($290,000 for a taxpayer filing a joint return) are not eligible for the subsidy.  Accordingly, employees can take a one time waiver of the subsidy.

Employers must offer continuation coverage to employees who suffered a qualifying event between September 1, 2008 and the enactment of the Act, even if they originally rejected coverage.  The election period is 60 days, and coverage will begin February 17 and run through the end of the original COBRA period.

While new notice forms should be issued within 30 days, in the meantime employers should develop their own form or update existing forms to provide notice of the subsidy.  In addition, employers must keep accurate records of subsidy payments, as more specific reporting requirements are to come.

These changes should be taken into consideration in a cost analysis of any RIF.  In addition, many employers offer payment of COBRA premuims for some period to employees as consideration for a release of claims.  Only the portion of the premium for which the employee is responsible can be used in this way. 

For more information on these significant developments, visit our Employee Benefits Blog:

Reductions in Force in the Unionized Environment - Traps for the Unwary

By Ian Meklinsky, Fox Rothschild LLP

In today’s tough economic times, many employers are looking to cut costs. One of the most significant cost centers for employers is its workforce. While looking to cut overhead may be a necessary evil to keep an organization afloat, employers must take careful aim when implementing a Reduction in Force (RIF) especially in the unionized environment.


In the unionized environment, in addition to the anti-discrimination laws that normally need to be carefully considered in developing and implementing a RIF, employers need to look to their collective bargaining agreements (CBA) and the National Labor Relations Act (NLRA) to determine if they have additional contractual and statutory obligations before developing or implementing a RIF.


An employer’s CBA may either restrict the organization’s ability to implement a RIF or it may provide broad discretion to the organization in this regard. Careful attention must be paid to any contractual provisions regarding management rights, seniority and layoff. CBAs may also provide for mandatory notice provisions greater to those required by either federal WARN or any state-specific mass lay-off or plant closing law. The union may have also negotiated into the CBA additional severance obligations (either with or without mandatory severance agreement language) that need to be taken into account when developing a severance pay program in the context of a broader RIF.


If the organization’s obligations under a CBA were not enough to trouble those developing and implementing a RIF in the unionized environment, the NLRA may place additional obligations upon the employer. For those unfamiliar with collective bargaining, employers may bargain with a union about any legal subject. Some legal subjects are permissive subject of bargaining (e.g., the inclusion of supervisors in the CBA) while others are mandatory (e.g., generally anything to do with wages, hours and other terms and conditions of employment). Depending upon the reason for the RIF, the NLRA may impose an obligation on the employer to bargain with the union before implementing the RIF (i.e., decisional bargaining) and in most cases the NLRA imposes an obligation on the employer to bargain after the decision is made (i.e., effects bargaining).


As to decisional bargaining, unionized employers need to understand that, in general, if a decision to layoff or close a facility is being made for purely economic reasons, it will not have an obligation to bargain with the union before making the decision to implement the decision. However, on the other hand, if the cost of labor (e.g., wages, benefits, overtime, etc.) are or could be a factor in the decision making process and the union could - theoretically – agree to concessions that would permit the employer to reduce or eliminate its planned RIF, the employer has an obligation under the NLRA to bargain with the union before making its final RIF decision. The body of case law under the NLRA in the RIF arena is vast and is not susceptible to a “cookie cutter” approach; thus, in each and every RIF situation in the unionized environment the employer should seek counsel to determine their statutory rights and obligations. In any event, regardless of whether an employer has a decisional bargaining obligation, unionized employers in the RIF setting have an obligation to engage in effects bargaining. These negotiations often focus on amount of severance and other post-employment benefits as well as possible changes to the CBA to deal with future RIFs.


The failure of an employer to adhere to its obligations under a CBA or the NLRA cannot be understated. Employers who fail to abide by their CBAs may subject themselves to grievances and ultimately arbitration (a non-judicial forum) and be liable for damages including back pay, benefits, and potential reinstatement for the displaced workers. Additionally, employers that take unilateral action in contravention of the CBA may also find themselves faced with an Unfair Labor Practice Charge (ULP) and have to respond to same before the National Labor Relations Board (NLRB). Finally, the failure of an employer to engage in decisional and/or effects bargaining may be met with the filing of a ULP by the union before the NLRB also opening the door for potential back pay, benefits and reinstatement obligations. Employers need to tread carefully in these waters.

WARNing - RIFS and the WARN Act

The Worker Adjustment and Retraining Notification Act (the "WARN Act") generally requires that covered employers give 60 days advance notice of a "plant closing" or "mass layoff" to affected employees, bargaining representatives, and local government officials.   The WARN Act does not apply to employers with 100 or fewer employees, generally measured on the date notice is required to be given. 

Employers must provide WARN Act notice with respect to all affected employees to each affected non-bargaining unit employee or the bargaining representatives of affected bargaining unit employees; the state dislocated worker unit; and, the chief elected official of the unit of local government within which the closing or layoff will occur.  "Affected employees" are those who may reasonably be expected to experience an employment loss as the result of a plant closing or mass lay-off, so employers must be mindful of bumping rights and other factors that may lead to eventual terminations when deciding to whom notice must be provided.

An "employment loss" occurs if employment ends for any reason other than discharge for cause, voluntary departure or retirement; an employee is placed on lay-off for more than 6 months; or, the employee's hours are reduced more than 50% for each month of a 6 month period. 

Complying with the WARN Act in the context of a reduction in force can be challenging.   A "mass lay-off" is any reduction in force, other than a plant closing, which, within any 30 day period, results in an employment loss at a single site of employment of either a third or more of the site's active employees, but at least 50 employees, or at least 500 employees.   Part time employees are not counted (but are entitled to notice); temporary project employees are counted (but are not entitled to notice).  Confusing?

Generally, employment losses are counted over a 30 day period, but if two or more groups suffer losses at the same site during a 90 day period (which is now a frequent occurrence) the groups may be aggregated.  The employer has the burden of proving that the lay-offs resulted from separate and distinct causes and actions and were not separated to evade WARN Act responsibilities.  Accordingly, when analyzing whether a RIF triggers WARN Act obligations, an employer must look back at all terminations that occurred in the past 90 days.   The 30 and 90 day periods are rolling periods depending on if or when the employer hits the requisite number of terminations to require notification.

Does an employer need to look forward as well? An employer may know reductions are coming, but not which jobs or employees will be affected.  Reasonableness is the touchstone of WARN obligations.  The WARN Act does not permit "blanket" or "rolling" notices. If a scheduled termination date changes, a previously given WARN Act notice may be inadequate.  If the date is delayed, the employer can either provide a notice of the postponement, referencing the earlier WARN Act notice (if the delay is less than 60 days) or provide a new WARN Act notice (if the delay is 60 days or longer). 

Instead of lay-offs, some employers are implementing reduced schedules which, as set forth above, can trigger WARN Act obligations as well.

Recalls, bumping and transfers may expunge an employment loss.  In addition, less than 60 days notice may be permissible in the case of a faltering business (for plant closings only); in the event of unforeseeable business circumstances, such as termination of a major contract or an unanticipated economic downturn; and, if the plant closing or mass lay-off is the result of a natural disaster.  Many employers can be expected to assert the unforeseeable business circumstances exception to the WARN Act in today's economic climate.

In the absence of required notice, employees can recover pay and benefits for the period when notice was not given.  If the employer does not want to or is unable to provide the required notice, they can pay employees in lieu of the 60 day notice, in which case damages should not be recoverable.  In addition, upon termination, employees can release WARN Act claims as part of a separation agreement.

Many states have their own versions of the WARN Act which can impose different and sometimes greater notice obligations, and penalties.

Determining whether an employer is covered; whether an event triggers notice obligations; whether an exception applies; and what notice must be given to whom and when can be challenging, particularly when the business is dealing with all of the issues that caused the need for the closing or lay-off in the first place.   Legal analysis of a RIF should include an assessment of WARN Act obligations.


Bedside Manner

Bedside manner matters.  Good bedside manner is often linked to lower medical malpractice claims against physicians.  In the context of employee terminations, good bedside manner can reduce claims as well.   The cost of a poorly-implemented RIF in terms of morale, public relations and liability can end up outweighing the economic benefits.

Justifiable business concerns regarding security of company premises, interactive systems and customer relations can result in abrupt terminations with little or no notice.  Fear of saying the wrong thing sometimes means employers provide no explanation at all.  And in light of economic conditions, severance, if any, can be well below employee expectations.  

So how to soften the blow?  National Public Radio recently profiled a reduction in force at the Bainbridge Graduate Institute ("BGI") in Bainbridge Island, WA.  Two values BGI emphasized in its lay-off process were "transparency" and "participation" - characteristics often lacking in reductions in force.  First, BGI turned to each department to trim its budget, involving employees directly in the decision-making.  Then BGI communicated the needed reductions privately and with compassion.    (Go to for the full story)

How can an employer show good bedside manner in the context of a RIF?

-  Notice, where possible, may give employees time to regroup and an opportunity to find other employment in a difficult market.  However, employers should monitor the activity of departing employees, including use of interactive systems and interactions with customers. 

-  Honesty is important.  Employers should communicate the real reason for the termination and why that employee was chosen.  In the context of employment claims, employees often challenge adverse actions by establishing that the reason they were given wasn't the "real" reason.  Even if the real reason is the employee's performance, it's better than sugar-coating.  The reason for the termination should be objectively supported and preferably documented (for example, performance appraisals, decline in sales).

-  To the extent possible, permit employees, at least at the management level, to participate in the process.  Employees will appreciate the opportunity to have some control over their fate.

-  Consider alternatives where possible. Will employees take reductions in pay, hours or overtime to avoid a lay-off?  Are there other cuts that can be made? Having a company holiday party contemporaneously with an end of year RIF sends the wrong message.

-  Where offering severance, try to offer an amount that reflects an employee's service to the company, such as by offering weeks of severance based on years of service.

-  At the time the separation is communicated, have on-site EAP available so employees have someone they can go to immediately.

-  Offer employees outplacement services.

There is a future after a reduction in force.  How the message is delivered sends a message itself - that can affect public relations, business development, and future recruiting.