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For Immediate Release
July 26, 2007

Contact:
Rand Ardell
(207) 774-1200
E-mail: rardell@bernsteinshur.com

Beryl Wolfe
(207) 883-6083

Web Site: http://www.bernsteinshur.com

New IRS Rules Pose Risks for Incentive Programs, Warns Bernstein Shur Attorney Jim Houle

Employers and employees face stiff penalties if they fail to comply by year's end

New England employers who offer incentive programs to employees must comply with new IRS rules or face severe tax consequences, Bernstein Shur employment attorney Jim Houle warned.

The new IRS rules have made common incentive programs – such as deferred compensation, severance benefits and stock options – less flexible and less attractive to employers and employees, Houle said.
Existing incentive programs that presently do not comply with the federal rules must be amended to comply no later than December 31, 2007, or face significant tax consequences, he said.

“The rules apply to a wide variety of programs – and affect both employers and employees,” said Houle. “Any employer who offers deferred compensation, stock options, stock appreciation rights, restricted stock plans, severance benefits, split-dollar life insurance, or supplemental executive retirement plans must comply.”

Houle, a Scarborough, Maine resident and well-known Portland lawyer, said all employers who offer incentive programs are subject to these new rules, whether the employer is a corporation, partnership, limited liability company, or non-profit.

“Those who aren’t technically ‘employees’ still have to comply with the new rules if they participate in an employer’s incentive program,” he said. “A company’s directors, outside advisors or independent contractors who participate in the incentive program are subject to the new rules.”

The new rules restrict how incentive programs are funded, how benefits can be deferred, and when benefits must be paid out to the employees or other recipients.

“These new rules grew out of a law Congress passed in reaction to Enron’s meltdown,” Houle explained. “Congress concluded that Enron had manipulated tax laws by setting up executive incentive programs that were overreaching and abusive. In response, Congress enacted a strict new law, Section 409A of the Internal Revenue Code. The IRS has now issued new detailed rules interpreting Section 409A.”

Violating the new rules results in significant taxes and penalties to both employers and employees.

“For example, the employee must pay income taxes on the full amount of the incentive benefit in the year the violation occurs, even if the employee won’t actually receive the incentive payment for years later,” Houle said. “The employee also has to pay a 20 percent tax penalty on the incentive program amount. And if the employee doesn’t pay the income taxes due, he will have to pay interest at a higher rate.”

Houle said employers could also have tax problems. “An employer is supposed to withhold state and federal income taxes on the amount of taxable income an employee receives under an incentive program. If the employer doesn’t withhold the correct amount of taxes, they could also be facing federal and state tax penalties for failing to withhold.”

Houle is a shareholder in Bernstein Shur’s Tax, Trusts, and Estates Practice Group. His legal practice focuses on wealth transfer and tax planning, particularly estate planning, business succession planning, retirement and IRA planning, employee benefits, and charitable gifts. He can be reached at 207 228-7268 or jhoule@bernsteinshur.com.

Bernstein Shur is one of northern New England’s largest multi-service law firms, with close to 90 attorneys in Portland and Augusta, Maine and Manchester, New Hampshire. Established in 1915, the firm provides practical legal counsel to a diverse group of public and private clients throughout the region and around the world. Bernstein Shur’s commercial, litigation, and municipal practices are complemented by the services of the firm’s affiliates, which include Bernstein Shur Government Solutions LLC, a government consulting firm; Stratex LLC, an environmental and engineering consultancy; and Monument Title Company. For more information, visit bernsteinshur.com.

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