Executive pensions (or deferred compensation) grabbed headlines after Enron's collapse and fresh concerns over ever-increasing executive pay. They also grabbed the attention of Congress, which reformed executive pensions legislatively in 2004 with § 409A of the Internal Revenue Code. Section 409A merely tightens and clarifies the doctrines that had already governed executive pensions, leaving the basic economics of executive pensions unchanged. Executives can still defer taxation on current compensation until actual payment is made in the future. Deferral still comes at the same price to the employer, namely the deferral of its deduction for the compensation expense. Thus, the timing of deduction and inclusion are matched. Because of this matching, deferral has no tax advantage at all except in three scenarios: (1) where the executive faces lower tax rates in the future, (2) where the employer faces higher tax rates in the future, and (3) where the employer can earn higher after-tax investment returns than the executive can earn. The first scenario (higher future tax rate for executives) is the most compelling, as executives will often face lower tax rates in the future because retirement will bring an end to their prime earning years. The second scenario (lower future tax rate for employers) is less compelling, as corporate income does not have the same life cycle as executives' income. The third scenario (greater ability for the employer to earn after-tax returns) is less compelling as well, given the lower tax rates that executives (but not corporate employers) pay on capital gains and dividend income. Thus, the primary problem of executive pensions is the temporal shifting of executive compensation from high-tax years to low-tax years. This temporal shifting is clearly allowed by current law, in contrast to personal shifting of compensation income from high-rate taxpayers to low-rate taxpayers. The policy concerns are largely the same, however, and the tax laws should limit the temporal shifting as well. The ideal response would be a system of accrual taxation on executive pensions. The second best would be taxing the delayed payment at the highest marginal tax rates that apply to individuals.

Document Type


Publication Date


Publication Information

67 Ohio State Law Journal 347-399 (2006)