The Tax Cuts and Jobs Act of 2017 makes several significant changes to Section 162(m), the $1 million deduction limitation on top executives. Performance compensation will now be subject to the limit. The executives subject to the limit will now include the CFO (in addition to CEO and three top-paid officers), and once an executive ‘makes the list’ that individual remains on the list. Because of these changes, public companies may find that a portion of compensation paid to these executives is now non-deductible. Since some executive compensation programs are long-term in nature, accounting rules require recognition of anticipated tax benefits as compensation costs are recognized. But now, since much of the compensation will not be deductible, determining the proper accounting for the tax benefits will be more complex.
As limitations on deductibility of compensation to covered executives becomes more prevalent, companies will need to adopt an accounting policy for allocating the deferred tax benefit limit to various forms of compensation. Models should be developed to schedule expected compensation into the future to calculate the deferred tax benefits under the chosen policy. And for many, this will also include developing robust processes for tracking 162(m) allowable tax deductions and any grandfathered payments.
Principal, Practice area leader, PwC US