Atlanta, Ga. -- A new provision passed in response to recent corporate scandals is likely to have an unintended -- and costly -- effect on consultants and employees ranging from staff members to top managers at all types of companies. The American Jobs Creation Act, which goes into affect Jan. 1, could cause some employees and contractors to pay more than 20 percent extra in tax plus penalties.
"This law is the equivalent to the Sarbanes-Oxley of the human resources sector," says Bruce Wynn, an attorney with law firm Morris, Manning & Martin, LLP.
"The law accelerates and increases the tax on 'deferred compensation,' where money is earned or accrued and is substantially vested, but not paid immediately," says Wynn. "Few people realize that many routine business documents may now be considered to be deferred compensation subject to the new American Jobs Creation Act of 2004."
Wynn explains that these may include bonus agreements and arrangements, severance agreements or provisions in other documents, executive employment agreements, salary and bonus deferral arrangements, stock options, stock appreciation rights and phantom stock plans.
If standards imposed by the new act aren't met, deferred income could be included in the employee's gross income immediately upon deferral, Wynn says. This would subject them to both an immediate tax and an immediate 20 percent additional tax plus, in some cases, additional interest. It is likely that no arrangements or agreements will be in compliance without some changes, he adds, and almost all existing agreements as well as many other customary routine business documents will require amendment.
Wynn says the deferred compensation provisions of the American Jobs Creation Act were a Congressional response to Enron and Worldcom, where executives at financially failing companies made off with huge sums while employees and creditors got very little, and also situations such as Delta Airlines, where provisions in agreements accelerated payments for, or secured payments for, executives upon the occurrence of company financial health problems.
The IRS is expected to issue a first round of guidance by December 21 of this year with more guidance to follow next year. It is critical, Wynn says, for businesses to be aware of this change, and make plans to follow the new provisions.