Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86481 

(other than city and state), telephone 

number, date of birth (other than year), 

names and initials of minor children, as 

well as any unnecessary health 

information identifiable by individual, 

such as an individual’s medical records. 

Sensitive personal information shall not 

be included in, and must be redacted or 

omitted from, all filings subject to: 

(i) Exceptions. The following 

information may be included and is not 

required to be redacted from filings: 

(A) The last four digits of a financial 

account number, credit card or debit 

card number, passport number, driver’s 

license number, and state-issued 

identification number; 

(B) Home addresses and telephone 

numbers of parties and persons filing 

documents with the Commission; 

(C) Business telephone numbers; and 

(D) Copies of unredacted filings by 

regulated entities or registrants that are 

available on the Commission’s public 

website. 

(f) Certification. Any filing made 

pursuant to this section, other than the 

record upon which the action 

complained of was taken, must include 

a certification that any information 

described in paragraph (e)(2) of this 

section has been omitted or redacted 

from the filing. 

■ 13. Section 201.440 is amended by 

revising paragraph (d) and adding 

paragraph (e) to read as follows: 

§ 201.440 Appeal of determinations by the 

Public Company Accounting Oversight 

Board. 

* * * * * 

(d) Certification of the record; service 

of the index. Within fourteen days after 

receipt of an application for review, the 

Board shall certify and file 

electronically in the form and manner to 

be specified by the Office of the 

Secretary in the materials posted on the 

Commission’s website one unredacted 

copy of the record upon which it took 

the complained-of action. 

(1) The Board shall file electronically 

with the Commission one copy of an 

index of such record, and shall serve 

one copy of the index on each party. If 

such index contains any sensitive 

personal information, as defined in 

paragraph (d)(2) of this section, the 

Board also shall file electronically with 

the Commission one redacted copy of 

such index, subject to the requirements 

of paragraphs (d)(2) of this section. 

(2) Sensitive personal information. 

Sensitive personal information is 

defined as a Social Security number, 

taxpayer identification number, 

financial account number, credit card or 

debit card number, passport number, 

driver’s license number, state-issued 

identification number, home address 

(other than city and state), telephone 

number, date of birth (other than year), 

names and initials of minor children, as 

well as any unnecessary health 

information identifiable by individual, 

such as an individual’s medical records. 

Sensitive personal information shall not 

be included in, and must be redacted or 

omitted from, all filings subject to: 

(i) Exceptions. The following 

information may be included and is not 

required to be redacted from filings: 

(A) The last four digits of a financial 

account number, credit card or debit 

card number, passport number, driver’s 

license number, and state-issued 

identification number; 

(B) Home addresses and telephone 

numbers of parties and persons filing 

documents with the Commission; 

(C) Business telephone numbers; and 

(D) Copies of unredacted filings by 

regulated entities or registrants that are 

available on the Commission’s public 

website. 

(e) Certification. Any filing made 

pursuant to this section, other than the 

record upon which the action 

complained of was taken, must include 

a certification that any information 

described in paragraph (d)(2) of this 

section has been omitted or redacted 

from the filing. 

By the Commission. 

Dated: November 17, 2020. 

J. Matthew DeLesDernier, 

Assistant Secretary. 

[FR Doc. 2020–25747 Filed 12–29–20; 8:45 am] 

BILLING CODE 8011–01–P 

DEPARTMENT OF THE TREASURY 

Internal Revenue Service 

26 CFR Part 1 

[TD 9932] 

RIN 1545–BO95 

Certain Employee Remuneration in 

Excess of $1,000,000 Under Internal 

Revenue Code Section 162(m) 

AGENCY: Internal Revenue Service (IRS), 

Treasury. 

ACTION: Final regulations. 

SUMMARY: This document sets forth final 

regulations under section 162(m) of the 

Internal Revenue Code (Code), which 

for Federal income tax purposes limits 

the deduction for certain employee 

remuneration in excess of $1,000,000. 

These final regulations implement the 

amendments made to section 162(m) by 

the Tax Cuts and Jobs Act and finalize 

the proposed regulations published on 

December 20, 2019. These final 

regulations affect publicly held 

corporations. 

DATES: 

Effective Date: These regulations are 

effective on December 30, 2020. 

Applicability Dates: For dates of 

applicability, see § 1.162–33(h). 

FOR FURTHER INFORMATION CONTACT: Ilya 

Enkishev at (202) 317–5600 (not a tollfree number). 

SUPPLEMENTARY INFORMATION: 

Background 

This document amends the Income 

Tax Regulations (‘‘Treasury regulations’’ 

(26 CFR part 1) under section 162(m)). 

Section 162(m)(1) disallows a deduction 

by any publicly held corporation for 

applicable employee remuneration paid 

or otherwise deductible with respect to 

any covered employee to the extent that 

such remuneration for the taxable year 

exceeds $1,000,000. Section 162(m) was 

added to the Code by section 13211(a) 

of the Omnibus Budget Reconciliation 

Act of 1993, Public Law 103–66. 

Proposed regulations under section 

162(m) were published in the Federal 

Register on December 20, 1993 (58 FR 

66310) (1993 proposed regulations). On 

December 2, 1994, the Department of 

the Treasury (Treasury Department) and 

the Internal Revenue Service (IRS) 

issued amendments to the proposed 

regulations (59 FR 61884) (1994 

proposed regulations). On December 20, 

1995, the Treasury Department and the 

IRS issued final regulations under 

section 162(m) (TD 8650) (60 FR 65534) 

(1995 regulations). 

Section 162(m) was amended by 

section 13601 of the Tax Cuts and Jobs 

Act (TCJA) (Pub. L. 115–97, 131 Stat. 

2054, 2155 (2017)). Section 13601 of 

TCJA amended the definitions of 

covered employee, publicly held 

corporation, and applicable employee 

remuneration in section 162(m). Section 

13601 also provided a transition rule 

applicable to certain outstanding 

compensatory arrangements (commonly 

referred to as the grandfather rule). On 

August 21, 2018, the Treasury 

Department and the IRS released Notice 

2018–68 (2018–36 I.R.B. 418), which 

provides guidance on certain issues 

under section 162(m). 

On December 20, 2019, the Treasury 

Department and the IRS published 

proposed regulations (REG–122180–18) 

relating to the amendments TCJA made 

to section 162(m) in the Federal 

Register (84 FR 70356) (the proposed 

regulations). The changes to section 

162(m) made by section 13601 of TCJA 

and the initial guidance provided by 

86482 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

1For simplicity, where possible, these final 

regulations use the term ‘‘compensation’’ instead of 

‘‘applicable employee remuneration.’’ These terms 

have the same meaning in these final regulations. 

2The term ‘‘foreign private issuer’’ is defined in 

21 CFR 240.3b–4(c). 

Notice 2018–68 are described in detail 

in the preamble to the proposed 

regulations. 

A public hearing was held on March 

9, 2020. The Treasury Department and 

the IRS also received written comments 

with respect to the proposed 

regulations. All written comments 

received in response to the proposed 

regulations are available at 

www.regulations.gov or upon request. 

After full consideration of the comments 

received on the proposed regulations 

and the testimony heard at the public 

hearing, this Treasury decision adopts 

the proposed regulations with 

modifications in response to certain 

comments and testimony, as described 

in the Summary of Comments and 

Explanation of Revisions section. 

Comments outside of the scope of the 

proposed regulations generally are not 

addressed in this preamble but may be 

considered in connection with future 

guidance projects. 

Summary of Comments and 

Explanation of Revisions 

I. Overview 

Section 13601 of TCJA significantly 

amended section 162(m). Consistent 

with the proposed regulations, these 

final regulations add a section to the 

Treasury regulations to reflect these 

amendments. Amended section 162(m) 

applies to taxable years beginning after 

December 31, 2017, except to the extent 

transition and grandfather rules 

described in section VI of this preamble 

apply. Because the 1995 regulations 

continue to apply to deductions related 

to amounts of remuneration to which 

the grandfather rule applies, the 1995 

regulations are retained as a separate 

section in the Treasury regulations 

under section 162(m). 

These final regulations retain the 

basic approach and structure of the 

proposed regulations, with certain 

revisions (including revised examples). 

This Summary of Comments and 

Explanation of Revisions discusses 

those revisions, as well as comments 

received in response to the proposed 

regulations. 

II. Publicly Held Corporation 

A. In General 

As amended by TCJA, section 

162(m)(2) defines the term ‘‘publicly 

held corporation’’ as any corporation 

that is an issuer (as defined in section 

3 of the Securities Exchange Act of 1934 

(Exchange Act)) of securities that are 

required to be registered under section 

12 of the Exchange Act, or that is 

required to file reports under section 

15(d) of the Exchange Act. These final 

regulations adopt the rule in the 

proposed regulations providing that, for 

ease of administration, a corporation is 

a publicly held corporation if, as of the 

last day of its taxable year, its securities 

are required to be registered under 

section 12 of the Exchange Act or it is 

required to file reports under section 

15(d) of the Exchange Act. 

These final regulations also adopt the 

rules set forth in the proposed 

regulations for determining whether a 

publicly traded partnership, a 

corporation that owns an entity that is 

disregarded as an entity separate from 

its owner within the meaning of 

§ 301.7701–2(c)(2)(i), or an S 

corporation (including an S corporation 

parent of a qualified subchapter S 

subsidiary (as defined in section 

1361(b)(3)(B)) (QSub) is a publicly held 

corporation as defined in section 

162(m)(2). Consistent with the proposed 

rules, these final regulations also 

provide that a real estate investment 

trust (REIT), as defined in section 

856(a), that owns a qualified real estate 

investment trust subsidiary as defined 

in section 856(i)(2) (QRS), is a publicly 

held corporation if the QRS issues 

securities required to be registered 

under section 12(b) of the Exchange Act, 

or is required to file reports under 

section 15(d) of the Exchange Act. 

B. Affiliated Groups 

These final regulations adopt the rules 

set forth in the 1995 regulations and the 

proposed regulations providing that the 

term ‘‘publicly held corporation’’ 

includes an affiliated group of 

corporations (affiliated group), as 

defined in section 1504 (determined 

without regard to section 1504(b)), that 

includes one or more publicly held 

corporations, and that a subsidiary 

corporation that meets the definition of 

publicly held corporation is separately 

subject to section 162(m). These final 

regulations also adopt the rules set forth 

in the proposed regulations providing 

that an affiliated group includes a 

parent corporation that is privately held 

if one or more of its subsidiary 

corporations is a publicly held 

corporation, and that an affiliated group 

may include more than one publicly 

held corporation as defined in section 

162(m)(2). 

In response to the proposed 

regulations, a commenter suggested that 

an affiliated group with more than one 

publicly held corporation should have 

only one set of covered employees for 

the affiliated group (instead of one set 

of covered employees for each separate 

publicly held corporation that is a 

member of the affiliated group). These 

final regulations do not adopt this 

suggestion because each corporation in 

an affiliated group is a separate taxpayer 

and section 162(m)(3) provides that 

each taxpayer that is a publicly held 

corporation has its own set of covered 

employees. Instead, as provided in the 

1995 regulations and in the proposed 

regulations, these final regulations 

provide that, in an affiliated group, each 

corporation that is a publicly held 

corporation is separately subject to 

section 162(m) and, therefore, has its 

own set of covered employees. 

These final regulations adopt the rules 

set forth in the 1995 regulations and the 

proposed regulations addressing 

situations in which a covered employee 

of a publicly held corporation that is a 

member of an affiliated group performs 

services for another member of the 

affiliated group. These final regulations 

provide that compensation 1 paid by all 

members of the affiliated group is 

aggregated and that any amount 

disallowed as a deduction by section 

162(m) is prorated among the payor 

corporations in proportion to the 

amount of compensation paid to the 

covered employee by each corporation 

in the taxable year. For situations in 

which a covered employee is paid 

compensation during a taxable year by 

more than one publicly held corporation 

that are members of the same affiliated 

group, these final regulations adopt the 

rules set forth in the proposed 

regulations providing that the amount of 

the deduction that is disallowed for 

compensation paid to a covered 

employee is determined separately with 

respect to each payor corporation that is 

a publicly held corporation. These final 

regulations clarify that compensation 

paid by a member of an affiliated group 

that is not a publicly held corporation 

to an employee who is a covered 

employee of two or more other members 

of the affiliated group is prorated for 

purposes of the determining the 

deduction disallowance among the 

members that are publicly held 

corporations of which the employee is 

a covered employee. 

C. Foreign Private Issuers 

Pursuant to the amended definition of 

publicly held corporation in section 

162(m)(2), the proposed regulations 

provide that a foreign private issuer 2

(FPI) is a publicly held corporation if it 

is required to register securities under 

section 12 of the Exchange Act or file 

reports under section 15(d) of the 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86483 

3The legislative history to TCJA provides that the 

amendment to the definition of publicly held 

corporation under section 162(m) ‘‘extends the 

applicability of section 162(m) to include . . . all 

foreign companies publicly traded through ADRs.’’ 

House Conf. Rpt. 115–466, 489 (2017). The Blue 

Book similarly states that ‘‘the provision extends 

the applicability of section 162(m) to include all 

foreign companies publicly traded through ADRs.’’ 

Staff of the Joint Committee on Taxation, General 

Explanation of Public Law 115–97 (Blue Book), at 

261 (December 20, 2018). 

4Before TCJA, the IRS ruled in several private 

letter rulings that section 162(m), as in effect at that 

time, did not apply to FPIs because FPIs are not 

required to disclose compensation of their officers 

on an individual basis under the Exchange Act, 

and, therefore, did not have covered employees. A 

private letter ruling may be relied upon only by the 

taxpayer to whom the ruling was issued and does 

not constitute generally applicable guidance. See 

section 11.02 of Revenue Procedure 2020–1, 2020– 

01 I.R.B. 144. TCJA amended section 162(m) to 

provide that a requirement to disclose 

compensation is not determinative of whether an 

officer is a covered employee. 

5See House Conf. Rpt. 115–466, 489 (2017). 

6 17 CFR 229.402(a)(3) (Item 402 of Regulation S– 

K). 

Exchange Act. The legislative history to 

TCJA indicates that Congress intended 

section 162(m) to apply to FPIs.3

In response to Notice 2018–68, 

commenters suggested that the proposed 

regulations provide that section 162(m) 

does not apply to FPIs because FPIs are 

not required to disclose compensation 

of their officers on an individual basis 

under the Exchange Act, unless similar 

disclosure is required by their home 

country.4 The commenters asserted that 

determining compensation on an 

individual basis (in order to determine 

the three most highly compensated 

executive officers) would require the 

FPIs to expend significant time and 

money in adopting the necessary 

internal procedures to make the 

determination consistent with Exchange 

Act requirements that are inapplicable 

to them. The proposed regulations do 

not adopt these suggestions. 

However, the preamble to the 

proposed regulations requested 

comments as to whether a safe harbor 

exemption from the definition of a 

publicly held corporation under section 

162(m) was appropriate for FPIs that are 

not required to disclose compensation 

of their officers on an individual basis 

in their home countries and, if so, how 

such a safe harbor could be designed. In 

response to this request for comments a 

commenter suggested that these final 

regulations should exempt any FPI from 

the definition of publicly held 

corporation, unless the FPI is required 

to disclose compensation of its officers 

on an individual basis in its home 

country. Another commenter suggested 

that these final regulations should 

exclude FPIs from the definition of 

publicly held corporation because 

determining compensation on an 

individual basis (in order to determine 

the three most highly compensated 

executive officers) requires extensive 

calculations consistent with executive 

compensation disclosure rules under 

the Exchange Act that are not applicable 

to FPIs. The commenters did not 

provide any analysis in support of a safe 

harbor rule or address how a safe harbor 

could be designed and administered. 

These final regulations do not adopt 

these suggestions because the scope of 

the exemption suggested for FPIs from 

the definition of publicly held 

corporation is inconsistent with the 

statutory language and the legislative 

history. Rather, these final regulations 

adopt the rules set forth in the proposed 

regulations providing that a FPI is a 

publicly held corporation if it is 

required to register securities under 

section 12 of the Exchange Act or file 

reports under section 15(d) of the 

Exchange Act. 

III. Covered Employee 

A. In General 

As amended by TCJA, section 

162(m)(3) defines the term ‘‘covered 

employee’’ as an employee of the 

taxpayer if (1) the employee is the 

principal executive officer (PEO) or 

principal financial officer (PFO) of the 

taxpayer at any time during the taxable 

year, or was an individual acting in 

such a capacity, (2) the total 

compensation of the employee for the 

taxable year is required to be reported 

to shareholders under the Exchange Act 

by reason of the employee being among 

the three highest compensated officers 

for the taxable year (other than the PEO 

and PFO), or (3) the individual was a 

covered employee of the taxpayer (or 

any predecessor) for any preceding 

taxable year beginning after December 

31, 2016. TCJA also added flush 

language to provide that a covered 

employee includes any employee of the 

taxpayer whose total compensation for 

the taxable year places the individual 

among the three highest compensated 

officers for the taxable year (other than 

any individual who is the PEO or PFO 

of the taxpayer at any time during the 

taxable year, or was an individual acting 

in such a capacity) even if the 

compensation of the officer is not 

required to be reported to shareholders 

under the Exchange Act. 

These final regulations adopt the rules 

set forth in the proposed regulations 

providing that a covered employee for 

any taxable year means any employee of 

the publicly held corporation who is 

among the three highest compensated 

executive officers for the taxable year, 

regardless of whether the executive 

officer is serving as an executive officer 

at the end of the publicly held 

corporation’s taxable year, and 

regardless of whether the executive 

officer’s compensation is subject to 

disclosure for the publicly held 

corporation’s last completed fiscal year 

under the applicable SEC rules. The 

determination that an officer is a 

covered employee because the officer is 

one of the three highest compensated 

executive officers, even if the officer’s 

compensation is not required to be 

disclosed under the SEC rules, is based 

on the flush language to section 

162(m)(3), the legislative history,5 and 

the SEC executive compensation 

disclosure rules.6 These final 

regulations also adopt the rule in the 

proposed regulations providing that the 

amount of compensation used to 

identify the three most highly 

compensated executive officers is 

determined pursuant to the executive 

compensation disclosure rules under 

the Exchange Act, substituting the 

publicly held corporation’s taxable year 

for references to the corporation’s fiscal 

year for purposes of applying the 

disclosure rules under the Exchange 

Act. 

In response to the proposed 

regulations, a commenter suggested that, 

with respect to the three highest 

compensated executive officers (other 

than the PEO and PFO), the term 

‘‘covered employee’’ should include 

only executive officers whose 

compensation is required to be 

disclosed pursuant to the SEC executive 

compensation disclosure rules. These 

final regulations do not adopt this 

suggestion because it is inconsistent 

with the flush language of section 

162(m)(3) providing that, even if the 

compensation of an executive officer is 

not required to be reported to 

shareholders under the Exchange Act, 

the officer is a covered employee if the 

officer’s total compensation for the 

taxable year, determined in accordance 

with the SEC disclosure rules, places 

the officer among the three highest 

compensated officers for the taxable 

year (other than the PEO and PFO). 

Section 162(m)(3)(C) provides that the 

term ‘‘covered employee’’ includes any 

employee who was a covered employee 

of any predecessor of the publicly held 

corporation for any preceding taxable 

year beginning after December 31, 2016. 

The proposed regulations provide rules 

for determining the predecessor of a 

publicly held corporation for various 

corporate transactions. With respect to 

asset acquisitions, the proposed 

regulations provide that, if an acquiror 

86484 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

7See section III.D of the preamble to the proposed 

regulations. For example, under § 1.105– 

11(c)(3)(iii), the nondiscrimination rules of section 

105(h)(3) apply to former employees even though 

the Code uses only the term ‘‘employees.’’ 

8House Conf. Rpt. 115–466, supra, at 489. 

corporation acquires at least 80% of the 

operating assets (determined by fair 

market value on the date of acquisition) 

of a publicly held target corporation, 

then the target corporation is a 

predecessor of the acquiror corporation. 

A commenter suggested that these final 

regulations clarify that the operating 

assets refer to gross operating assets 

instead of net operating assets. These 

final regulations adopt this suggestion. 

The proposed regulations also provide 

rules for determining the covered 

employees of an owner of a disregarded 

entity, and an S corporation that owns 

a QSub. No comments were received 

with respect to these provisions of the 

proposed regulations. Accordingly, 

these final regulations adopt the rules 

set forth in the proposed regulations 

and, consistent with those rules, 

provide additional rules for purposes of 

determining the covered employees of a 

REIT that owns a QRS. 

B. Covered Employees Limited to 

Executive Officers 

Under the definition of covered 

employee in section 162(m)(3) as 

amended by TCJA, a PEO and PFO are 

covered employees by virtue of holding 

those positions or acting in those 

capacities. The three highest 

compensated officers (other than the 

PEO or PFO) are covered employees by 

reason of their compensation. Pursuant 

to section 162(m)(3)(B), the three 

highest compensated officers are 

determined based on the methods by 

which these officers are identified for 

purposes of the executive compensation 

disclosure rules under the Exchange 

Act. With respect to the three highest 

compensated officers for a taxable year, 

consistent with the disclosure rules 

under the Exchange Act, the proposed 

regulations provide that only an 

executive officer, as defined in 17 CFR 

240.3b–7 (Rule 3b–7), may qualify as a 

covered employee. In relevant part, Rule 

3b–7 provides that ‘‘[e]xecutive officers 

of subsidiaries may be deemed 

executive officers of the registrant if 

they perform . . . policy making 

functions for the registrant.’’ A 

commenter suggested that these final 

regulations provide that an executive 

officer of a subsidiary may be a covered 

employee of the publicly held 

corporation that is the registrant only if 

the officer is also an officer of that 

publicly held corporation. These final 

regulations do not adopt this suggestion 

because it is inconsistent with Rule 3b– 

7. 

C. Covered Employees After Separation 

From Service 

Section 162(m)(3)(C), as amended by 

TCJA, provides that a covered employee 

includes ‘‘a covered employee of the 

taxpayer (or any predecessor) for any 

preceding taxable year beginning after 

December 31, 2016.’’ The legislative 

history to TCJA provides that: 

if an individual is a covered employee with 

respect to a corporation for a taxable year 

beginning after December 31, 2016, the 

individual remains a covered employee for 

all future years. Thus, an individual remains 

a covered employee with respect to 

compensation otherwise deductible for 

subsequent years, including for years during 

which the individual is no longer employed 

by the corporation and years after the 

individual has died. 

(House Conf. Rpt. 115–466, 489 (2017)). 

The Blue Book reiterated the legislative 

history in explaining the amended 

definition of covered employee. See 

Blue Book at page 260. 

Consistent with section 162(m)(3)(C), 

as amended by TCJA, and the legislative 

history, the proposed regulations 

provide that a covered employee 

identified for taxable years beginning 

after December 31, 2016, will continue 

to be a covered employee for all 

subsequent taxable years, including 

years during which the individual is no 

longer employed by the corporation and 

years after the individual has died. A 

commenter suggested that, based on the 

statutory text of both section 162(m) and 

section 4960, which was enacted by 

TCJA, Congress intended the term 

‘‘employee’’ in section 162(m) to be 

limited to a current employee. The 

commenter pointed out that section 

4960(c)(2) provides, in relevant part, 

that ‘‘the term ‘covered employee’ 

means any employee (including any 

former employee)’’ and noted that the 

words ‘‘including any former employee’’ 

are absent from the definition of covered 

employee in section 162(m)(3). The 

commenter reasoned that, because 

Congress enacted section 4960 and 

amended the definition of covered 

employee in section 162(m) in the same 

legislation (TCJA), the absence of these 

words limits the definition of covered 

employee to a current employee for 

purposes of section 162(m). 

The Treasury Department and the IRS 

have concluded that the better analysis 

is that Congress intended to apply both 

section 162(m) and section 4960 to 

current and former employees. Congress 

may accomplish the same objective in 

two separate legislative provisions 

without using identical statutory 

language. As explained in section III.D 

of the preamble to the proposed 

regulations, the reference to an 

employee in section 162(m) provides no 

indication that the term ‘‘employee’’ is 

limited to a current employee, since a 

reference in the Code to an ‘‘employee’’ 

has frequently been interpreted in 

regulations as a reference to both a 

current and a former employee.7 In 

addition, as previously noted, the 

legislative history to section 162(m) 

makes clear that Congress intended the 

term ‘‘covered employee’’ to include a 

former employee.8 Accordingly, these 

final regulations adopt the proposed 

regulations without change. 

IV. Applicable Employee Remuneration 

A. In General 

Section 162(m)(4)(A) defines the term 

‘‘applicable employee remuneration’’ 

with respect to any covered employee 

for any taxable year as the aggregate 

amount allowable as a deduction for the 

taxable year (determined without regard 

to section 162(m)) for remuneration for 

services performed by such employee 

(whether or not during the taxable year). 

Section 162(m)(4)(F) provides that 

remuneration shall not fail to be 

applicable employee remuneration 

merely because it is includible in the 

income of, or paid to, a person other 

than the covered employee, including 

after the death of the covered employee. 

For simplicity, the proposed regulations 

and these final regulations use the term 

‘‘compensation’’ instead of ‘‘applicable 

employee remuneration’’ wherever 

possible. Like the proposed regulations, 

these final regulations provide that 

compensation means the aggregate 

amount allowable as a deduction under 

chapter 1 of the Code for the taxable 

year (determined without regard to 

section 162(m)) for remuneration for 

services performed by a covered 

employee, whether or not the services 

were performed during the taxable year, 

and that compensation includes an 

amount that is includible in the income 

of, or paid to, a person other than the 

covered employee, including after the 

death of the covered employee 

B. Compensation Paid by a Partnership 

to a Covered Employee 

Section 162(m)(1) provides that ‘‘[i]n 

the case of any publicly held 

corporation, no deduction shall be 

allowed under this chapter for 

applicable employee remuneration with 

respect to any covered employee.’’ As 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86485 

9This commenter also suggested a transition 

relief period of 10 years for taxpayers that, prior to 

the IRS first announcing the no-rule position on this 

issue in Revenue Procedure 2010–3, received 

private letter rulings providing that section 162(m) 

did not limit the deduction of the publicly held 

corporation for compensation paid to a covered 

employee by a partnership in which the publicly 

held corporation held a partnership interest. The 

IRS announced the no-rule position in 2010 in 

section 5.06 of Revenue Procedure 2010–3, 2010– 

1 I.R.B. 110, which provided that ‘‘[w]hether the 

deduction limit under § 162(m) applies to 

compensation attributable to services performed for 

a related partnership’’ was an area under study in 

which rulings or determination letters will not be 

issued until the IRS resolves the issue through 

publication of a revenue ruling, revenue procedure, 

regulations, or otherwise. 

explained in section IV.B of the 

preamble to the proposed regulations, 

this statutory provision serves as the 

basis for the rule in the proposed 

regulations that a publicly held 

corporation that holds a partnership 

interest must take into account its 

distributive share of the partnership’s 

deduction for compensation paid to the 

publicly held corporation’s covered 

employee and aggregate that distributive 

share with the corporation’s otherwise 

allowable deduction for compensation 

paid directly to that employee in 

applying the deduction limitation under 

section 162(m). 

In response to this provision of the 

proposed regulations, commenters 

suggested that remuneration paid by a 

partnership is not compensation for 

purposes of section 162(m) because the 

partnership is neither a publicly held 

corporation nor a member of an 

affiliated group. Section 162(m) does 

not limit the application of section 

162(m) in that manner. Rather, section 

162(m) applies to all compensation, 

which includes ‘‘all amounts allowable 

as a deduction . . . for remuneration for 

services performed by such employee 

(whether or not during the taxable 

year).’’ While the comments suggest a 

reading of section 162(m)(1) that 

services must be performed in the 

employee’s capacity as an employee and 

must be performed for the publicly held 

corporation, neither of these 

requirements appear in the statute. In 

addition, adoption of the commenters’ 

suggestion could lead to the use of 

partnerships as a method of avoiding 

application of section 162(m), a result 

that the Treasury Department and IRS 

conclude is not intended by the statute. 

Commenters also suggested that 

remuneration paid by a partnership 

should be compensation for purposes of 

section 162(m) only if the publicly held 

corporation has an 80% or greater 

interest in the partnership because the 

definition of an affiliated group requires 

80% ownership by vote and value 

among the members of the affiliated 

group. The Treasury Department and 

the IRS did not adopt this rule because 

the analogy to the affiliated group 

proffered by the commenters does not 

take into account that the tax treatment 

of a partner in a partnership differs from 

the tax treatment of a corporation that 

owns stock in another corporation. 

Although a consolidated group of 

corporations may obtain a tax result 

similar to a deduction flow through, a 

subsidiary’s compensation deduction 

does not flow through to the parent 

corporation in a non-consolidated group 

of corporations. In contrast, when a 

publicly held corporation is a partner in 

a partnership, a share of the 

partnership’s items of income, gain, 

loss, and deduction generally is 

allocated to the publicly held 

corporation in accordance with 

partnership agreement, subject to 

section 704. Furthermore, that 

allocation may occur regardless of the 

level of ownership by the publicly held 

corporation. 

These final regulations adopt the 

provisions of the proposed regulations 

and provide that a publicly held 

corporation must take into account its 

distributive share of a partnership’s 

deduction for compensation paid to the 

publicly held corporation’s covered 

employee in determining the amount 

allowable to the corporation as a 

deduction for compensation under 

section 162(m). Consistent with an 

example in the proposed regulations 

and incorporated into these final 

regulations, these final regulations 

clarify that the publicly held 

corporation’s distributive share of the 

partnership’s deduction for 

compensation paid by the partnership to 

a covered employee in connection with 

the performance of services includes the 

partnership’s deduction for a payment 

to the covered employee for services 

under section 707(a) or section 707(c). 

In response to a commenter’s request 

for clarification on the application of the 

rule that a publicly held corporation 

must take into account its distributive 

share of a partnership’s compensation 

payment to the publicly held 

corporation’s covered employee, the 

Treasury Department and the IRS 

confirm that these final regulations 

address only application of the section 

162(m) compensation deduction 

limitation to the publicly held 

corporation’s distributive share of the 

payment. The commenter also noted 

that this partnership rule results in a 

different application of section 162(m) 

depending on whether a publicly held 

corporation’s covered employee receives 

compensation for services from a 

partnership in which the publicly held 

corporation is a partner or from a 

corporate subsidiary of the partnership. 

Assuming the partnership is respected 

for U.S. Federal income tax purposes, 

section 162(m) generally would not 

apply to compensation paid to a 

publicly held corporation’s covered 

employee by a corporate subsidiary of a 

partnership for services performed as an 

employee of the subsidiary because, in 

this circumstance, the corporate 

subsidiary would not be a member of 

the publicly held corporation’s affiliated 

group. 

In recognition of the prior lack of 

clarity in this area, the proposed 

regulations provide a special 

applicability date for this rule, as well 

as limited transition relief applicable to 

arrangements in which a publicly held 

corporation holds a partnership interest. 

Specifically, to ensure that 

compensation agreements were not 

formed or otherwise structured to 

circumvent the rule regarding 

partnerships after publication of the 

proposed regulations and prior to the 

publication of these final regulations, 

the proposed regulations set forth a 

special applicability date that would 

apply the rule to any deduction for 

compensation paid by a partnership that 

is otherwise allowable for a taxable year 

ending on or after December 20, 2019 

(the publication date of the proposed 

regulations), but would not apply the 

rule to compensation paid pursuant to 

a written binding contract in effect on 

December 20, 2019 that is not materially 

modified after that date. 

Commenters requested additional 

transition relief for this rule. A 

commenter suggested a transition relief 

period of 7 years from the date of 

publication of these final regulations.9

Other commenters suggested that 

transition relief should apply for taxable 

years beginning before the publication 

of these final regulations. In the 

alternative, these commenters suggested 

transition relief for compensation 

arrangements in effect on December 22, 

2017 (the date of TJCA enactment), 

regardless of whether the partnership is 

obligated to pay the amount of 

compensation under applicable law, 

which would provide for more 

expansive transition relief than set forth 

in the proposed regulations. 

As the preamble to the proposed 

regulations explains, the transition relief 

for this definition of compensation must 

be designed to ensure that 

compensation agreements are not 

formed or otherwise structured to 

circumvent the proposed rules after 

publication of the proposed regulations 

and prior to the publication of these 

86486 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

10The legislative history to the enactment of 

section 162(m) provides that: 

Unless specifically excluded, the deduction 

limitation applies to all remuneration for services, 

including cash and the cash value of all 

remuneration (including benefits) paid in a medium 

other than cash. If an individual is a covered 

employee for a taxable year, the deduction 

limitation applies to all compensation not explicitly 

excluded from the deduction limitation, regardless 

of whether the compensation is for services as a 

covered employee and regardless of when the 

compensation was earned. 

House Conf. Rpt. 103–213, 585 (1993). 

11The preamble to the 1993 proposed regulations 

provides that, ‘‘[t]he deduction limit of section 

162(m) applies to any compensation that could 

otherwise be deducted in a taxable year, except for 

enumerated types of payments set forth in section 

162(m)(4)’’ (58 FR 66310, 66310). 

12 In suggesting that the statute should be read to 

exclude payments for services performed as an 

independent contractor from compensation subject 

to section 162(m), commenters point to a private 

letter ruling issued in 1997 (PLR 9745002). In the 

letter ruling, based on the facts presented, the IRS 

ruled that, for purposes of section 162(m), 

compensation excludes consulting fees for services 

performed by a covered employee as an 

independent contractor. A private letter ruling may 

be relied upon only by the taxpayer to whom the 

ruling was issued and does not constitute generally 

applicable guidance. See section 11.02 of Revenue 

Procedure 2020–1, 2020–01 I.R.B. 144. 

13House Conf. Rpt. 103–213, 585 (1993). 

14Section 1.162–27(c)(3)(i). The preamble to the 

1993 proposed regulations reiterates this principle, 

as quoted earlier. 

final regulations. In consideration of 

commenters’ requests for additional 

transition relief, these final regulations 

modify the applicability date of the 

definition of compensation under 

§ 1.162–33(c)(3)(ii) to provide additional 

limited transition relief. Under these 

final regulations, the definition of 

compensation under § 1.162–33(c)(3)(ii) 

includes an amount equal to a publicly 

held corporation’s distributive share of 

a partnership’s deduction for 

compensation expense attributable to 

the compensation paid by the 

partnership after December 18, 2020, the 

date on which these final regulations 

were made publicly available on the IRS 

website at http://www.irs.gov. Because 

the date that these final regulations are 

made publicly available is prior to the 

date that they are published in the 

Federal Register, using the earlier date 

for the expiration of the additional 

transition relief is appropriate to ensure 

that compensation is not paid to 

circumvent these final regulations. In 

addition, these final regulations 

continue to provide that this aspect of 

the definition of compensation does not 

apply to compensation paid after 

December 30, 2020 if the compensation 

is paid pursuant to a written binding 

contract that is in effect on December 

20, 2019, and that is not materially 

modified after that date. 

C. Compensation for Services in a 

Capacity Other Than as a Common Law 

Employee 

The proposed regulations provide that 

compensation subject to section 162(m) 

includes remuneration for services 

performed by a covered employee in 

any capacity, including as a common 

law employee, a director, or an 

independent contractor. As explained in 

section IV. C of the preamble to the 

proposed regulations, this rule is based 

on the lack of a specific limitation in the 

statutory language regarding the 

capacity in which the covered employee 

must perform the services for which 

remuneration is paid, and it is 

supported by the legislative history to 

the enactment of section 162(m) in 

1993 10 and the preamble to the 1993 

proposed regulations.11

In response to the proposed 

regulations, commenters suggested that, 

based on the language of section 

162(m)(4)(A), compensation subject to 

section 162(m) should include only 

compensation for services performed by 

a covered employee as an employee of 

the publicly held corporation. The 

commenters reasoned that, because 

section 162(m)(4)(A) uses the phrase 

‘‘for remuneration for services 

performed by such employee’’ 

(emphasis added) in defining 

compensation subject to section 162(m), 

only compensation for services 

provided as an employee is subject to 

section 162(m).12

While the statute may be read in the 

manner suggested by the commenters, 

there is nothing in the language that 

compels this reading, nor does the 

legislative history to the enactment of 

section 162(m) suggest that 

compensation subject to section 162(m) 

was intended to include only 

compensation for services as an 

employee. Section 162(m)(4)(A), which 

was not amended by TCJA, provides 

that ‘‘the term ‘applicable employee 

remuneration’ means, with respect to 

any covered employee for any taxable 

year, the aggregate amount allowable as 

a deduction under this chapter for such 

taxable year . . . for remuneration for 

services performed by such employee 

(whether or not during the taxable 

year).’’ The legislative history provides 

that section 162(m) ‘‘applies to all 

compensation . . . regardless of 

whether the compensation is for 

services as a covered employee and 

regardless of when the compensation 

was earned.’’ 13 Consistent with this 

legislative history, the 1995 regulations 

defined the term compensation as ‘‘the 

aggregate amount allowable as a 

deduction . . . for remuneration for 

services performed by a covered 

employee, whether or not the services 

were performed during the taxable 

year.’’ 14 Thus, neither the statute nor 

the 1995 regulations specifically limit 

the compensation subject to section 

162(m) to remuneration paid to the 

covered employee for services as an 

employee. 

Commenters also suggested that 

section 162(m) does not apply to 

compensation for services as an 

independent contractor because by 

excluding from the definition of 

compensation payments that may be 

made only to an employee, section 

162(m)(4)(C) indicates that 

compensation subject to section 162(m) 

is limited to compensation for services 

as an employee. Section 162(m)(4)(C) 

excludes from the definition of 

compensation: ‘‘(i) any payment referred 

to in so much of section 3121(a)(5) as 

precedes subparagraph (E) thereof, and 

(ii) any benefit provided to or on behalf 

of an employee if at the time such 

benefit is provided it is reasonable to 

believe that the employee will be able 

to exclude such benefit from gross 

income under this chapter.’’ 

Section 162(m)(4)(i), by crossreferencing sections 3121(a)(5)(A)–(D), 

generally excludes from compensation 

contributions by an employer on an 

employee’s behalf to certain types of 

qualified retirement plans and payments 

from those types of plans to the 

employee. Thus, contributions to these 

arrangements for which an employer 

would otherwise have a deduction 

available will not be treated as 

compensation and the deduction will 

not be limited by section 162(m). 

Section 162(m)(4)(C)(ii) serves a similar 

function by excluding from 

compensation (and thus not limiting the 

compensation deduction) certain 

employee benefits that would be 

excludible from the employee’s income. 

These exclusions of benefit payments 

from the definition of ‘‘applicable 

employee remuneration’’ reflect only 

that an individual must be an active 

employee of the publicly held 

corporation (or a predecessor) at some 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86487 

15House Conf. Rpt. 115–466, 489 (2017). 

16Specifically, a privately held corporation that 

becomes a publicly held corporation before 

December 20, 2019, may rely on the transition rules 

provided in § 1.162–27(f)(1) until the earliest of the 

events described in § 1.162–27(f)(2). As provided in 

the 1995 regulations, a corporation that is a member 

of an affiliated group that includes a publicly held 

corporation is considered publicly held and, thus, 

may not rely on the transition relief provided in 

§ 1.162–27(f)(1). 

point in order to become a covered 

employee, and that the individual 

typically would participate in these 

types of employee benefit arrangements 

as an employee (often continuing 

participation that started before the 

individual became a covered employee). 

Importantly, the TCJA amendments to 

section 162(m) changed the context in 

which the question as to whether nonemployee compensation is subject to the 

deduction limitation is analyzed. Prior 

to TCJA, the section 162(m) deduction 

limitation could be avoided by ensuring 

that any compensation in excess of 

$1,000,000 paid to a covered employee 

qualified as performance-based 

compensation or was paid to the 

covered employee after separation from 

service or after termination of the 

individual’s status as a covered 

employee. For example, if a PEO ceased 

serving as PEO or as an executive officer 

but continued as an employee of the 

publicly held corporation for later 

taxable years, the former PEO could be 

compensated without taking into 

account the potential for a limitation on 

the deduction due to section 162(m). 

The TCJA amendment of section 

162(m) eliminates the exclusion from 

the deduction limitation for 

compensation paid after the individual 

is no longer a covered employee. Under 

the amended section 162(m) rules, once 

an individual is identified as a covered 

employee, the individual continues to 

be a covered employee, and all 

compensation paid to that individual is 

subject to the deduction limitation, even 

after the individual is no longer 

employed by the publicly held 

corporation. As explained in the 

legislative history, this result was 

intended.15

The commenters’ suggestion that 

section 162(m) does not apply to 

compensation for services as an 

independent contractor would lead to 

uncertainty and administrative burdens 

for both the taxpayer and the IRS, as 

well as to the potential for abusive 

arrangements structured to avoid the 

application of section 162(m) to covered 

employees who have terminated 

employment (or who have purportedly 

terminated employment). Given that the 

amendments to section 162(m) no 

longer limit the deduction disallowance 

to taxable years in which a covered 

employee is employed on the last day of 

the taxable year, and the lack of 

statutory language or legislative history 

specifically indicating an intent to 

restrict the deduction limitation to 

compensation earned by the individual 

in the capacity as an employee, the 

Treasury Department and the IRS have 

determined that the more appropriate 

construction of the statutory language 

defining ‘‘applicable employee 

remuneration’’ is to include all 

compensation paid to a covered 

employee regardless of the capacity in 

which the covered employee performed 

services to earn that compensation. 

V. Privately Held Corporations That 

Become Publicly Held 

These final regulations adopt the rules 

set forth in the proposed regulations 

providing that, in the case of a privately 

held corporation that becomes a 

publicly held corporation, section 

162(m) limits the deduction for any 

compensation that is otherwise 

deductible for the taxable year ending 

on or after the date that the corporation 

becomes a publicly held corporation, 

and that a corporation is considered to 

become publicly held on the date that 

its registration statement becomes 

effective under the Securities Act or the 

Exchange Act. These final regulations 

also adopt the transition relief set forth 

in the proposed regulations providing 

that a privately held corporation that 

becomes a publicly held corporation on 

or before December 20, 2019, generally 

may rely on the transition rules 

provided in § 1.162–27(f)(1) and (2) of 

the 1995 regulations.16 In response to a 

question from a commenter, these final 

regulations clarify that a subsidiary that 

is a member of an affiliated group may 

rely on transition relief provided in 

§ 1.162–27(f)(4) of the 1995 regulations 

if it becomes a separate publicly held 

corporation (for example, in a spin-off 

transaction) on or before December 20, 

2019. 

Consistent with comments received 

prior to issuance of the proposed 

regulations, a commenter suggested that 

these final regulations should continue 

to provide transition relief similar to 

that provided in § 1.162–27(f)(1) and (2) 

of the 1995 regulations for privately 

held corporations that become publicly 

held after December 20, 2019. Those 

sections of the 1995 regulations were 

formulated based on the legislative 

history to the enactment of section 

162(m) and were intended to permit a 

transition period to meet the 

shareholder approval requirement for 

qualified performance-based 

compensation so that the resulting 

compensation would not be subject to 

the deduction limitation under section 

162(m). TCJA eliminated the exclusion 

from the definition of compensation for 

qualified performance-based 

compensation. Thus, a transition period 

to accommodate a shareholder approval 

process is no longer needed. There is no 

indication in the language of the 

amended section 162(m) or the 

legislative history to the amendments 

that the transition period was intended 

be extended even though the original 

basis for its adoption no longer exists. 

Accordingly, the suggestion is not 

adopted in these final regulations. 

VI. Grandfather Rule 

A. In General 

Section 13601(e) of TCJA generally 

provides that the amendments to section 

162(m) apply to taxable years beginning 

after December 31, 2017. However, it 

further provides that those amendments 

do not apply to compensation that is 

payable pursuant to a written binding 

contract that was in effect on November 

2, 2017, and that was not modified in 

any material respect on or after that date 

(the grandfather rule). 

As discussed in section VI. A of the 

preamble to the proposed regulations, 

the text of section 13601(e) of TJCA is 

almost identical to the text of pre-TCJA 

section 162(m)(4)(D), which provided a 

transition rule in connection with the 

enactment of section 162(m) in 1993 

(the 1993 grandfather rule). Under the 

1993 grandfather rule, section 162(m) 

did not apply to compensation payable 

under a written binding contract that 

was in effect on February 17, 1993, and 

that was not modified thereafter in any 

material respect before the 

compensation was paid. Section 1.162– 

27(h) provides guidance on the 

definitions of written binding contract 

and material modification for purposes 

of applying the 1993 grandfather rule. 

The proposed regulations adopt those 

definitions for purposes of the 

grandfather rule under section 13601(e) 

of TCJA. These final regulations adopt 

the provisions of the proposed 

regulations and retain these definitions, 

including that compensation is payable 

under a written binding contract that 

was in effect on November 2, 2017, only 

to the extent that the corporation is 

obligated under applicable law to pay 

the compensation if the employee 

performs services or satisfies the 

applicable vesting conditions. Section 

162(m), as amended, applies to any 

amount of compensation that exceeds 

the amount that applicable law obligates 

the corporation to pay under a written 

86488 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

binding contract that was in effect on 

November 2, 2017. 

In response to the proposed 

regulations, a commenter requested that 

these final regulations adopt a safe 

harbor based on Generally Acceptable 

Accounting Principles (GAAP). The 

same suggestion had been made prior to 

issuance of the proposed regulations, 

and section VI. A of the preamble to the 

proposed regulations describes a 

number of issues with a GAAP safe 

harbor and asks for comments on how 

and whether these issues could be 

addressed. The commenter did not 

address any of these issues related to the 

formulation and application of a GAAP 

safe harbor. Accordingly, these final 

regulations do not adopt a GAAP safe 

harbor rule. 

Another commenter suggested a safe 

harbor that would grandfather an 

amount of compensation paid pursuant 

to a compensation arrangement that 

satisfied three requirements on or before 

November 2, 2017: (1) The arrangement 

was memorialized in some form of 

media (for example, presentation slides 

or spreadsheet); (2) the arrangement was 

communicated to its participants (for 

example, disseminated in hard copy, 

electronically, or via presentation 

format); and (3) participants in the 

arrangement had a reasonable 

expectation that they were eligible to 

receive compensation pursuant to the 

arrangement. This suggested safe harbor 

would require an intensive facts and 

circumstances analysis and raise 

administrability issues about how to 

determine the participants’ expectations 

regarding the compensation 

arrangement and whether those 

expectations were reasonable. 

Furthermore, the suggested safe harbor 

arguably is inconsistent with the 

statutory language that grandfathers an 

amount of compensation only if the 

corporation was obligated to pay it 

under applicable law pursuant to a 

written binding contract in effect on 

November 2, 2017, and not, for example, 

if an employee merely had a reasonable 

expectation of payment (without regard 

to the corporation’s obligation under 

applicable law). For these reasons, these 

final regulations do not adopt this safe 

harbor. 

B. Compensation Subject to Negative 

Discretion 

These final regulations adopt the rule 

set forth in the proposed regulations 

providing that a provision in a 

compensation agreement that purports 

to provide the employer with the 

discretion to reduce or eliminate a 

compensation payment (negative 

discretion) is taken into account only to 

the extent the corporation has the right 

to exercise the negative discretion under 

applicable law (for example, applicable 

state contract law). If a compensation 

arrangement allows the corporation to 

exercise negative discretion, 

compensation payable under the 

arrangement is not grandfathered to the 

extent the corporation is not obligated to 

pay it under applicable law. 

In response to the proposed 

regulations, a commenter suggested that 

negative discretion provisions should be 

disregarded in determining whether 

compensation is grandfathered because 

numerous performance-based 

compensation arrangements provide 

corporations with such discretion. 

However, the practice of including 

negative discretion provisions in 

compensation arrangements is based on 

a well-known and longstanding 

regulatory provision, and Congress 

could have provided for a grandfather 

rule that addressed performance-based 

compensation arrangements that 

include a negative discretion provision, 

but it did not. Instead, the grandfather 

rule refers only to compensation paid 

pursuant to a legally binding contract in 

effect on the transition date. Thus, 

whether a performance-based 

compensation arrangement that 

includes a negative discretion provision 

is a legally binding contract is 

determined based on applicable law. 

Another commenter suggested that a 

corporation should be deemed not to 

have a right to exercise negative 

discretion if the terms of the agreement 

provide that the corporation may not 

exercise this discretion if doing so 

would result in the payment of 

compensation that would not be 

deductible by reason of section 162(m). 

Whether a compensation agreement that 

includes a negative discretion provision 

of this sort would be a written binding 

contract that permitted the exercise of 

the negative discretion after the 

amendments to section 162(m) or rather 

obligated the employer to pay the 

compensation because the section 

162(m) amendments negated the 

employer’s ability to exercise the 

negative discretion must be determined 

based on applicable law. Accordingly, 

these final regulations do not provide a 

separate standard for purposes of 

applying the grandfather rule to 

compensation agreements that include 

this type of negative discretion 

provision (or any other type of negative 

discretion provision). 

C. Recovery of Compensation 

The proposed regulations provide 

that, if the corporation is obligated or 

has discretion to recover compensation 

paid in a taxable year only upon the 

future occurrence of a condition that is 

objectively outside of the corporation’s 

control, then the corporation’s right to 

recovery is disregarded for purposes of 

determining the grandfathered amount 

for the taxable year. The proposed 

regulations also provide that, if the 

condition occurs, then only the amount 

the corporation is obligated to pay 

under applicable law remains 

grandfathered, taking into account the 

occurrence of the condition. After 

further consideration, the Treasury 

Department and the IRS recognize that 

the corporation’s right to recover 

compensation is a contractual right that 

is separate from the corporation’s 

binding obligation under the contract 

(as of November 2, 2017) to pay the 

compensation. Accordingly, these final 

regulations provide that the 

corporation’s right to recover 

compensation does not affect the 

determination of the amount of 

compensation the corporation has a 

written binding contract to pay under 

applicable law as of November 2, 2017, 

whether or not the corporation exercises 

its discretion to recover any 

compensation in the event the condition 

arises in the future. 

D. Account and Nonaccount Balance 

Plans 

The proposed regulations include 

examples illustrating the application of 

the grandfather rule to account and 

nonaccount balance nonqualified 

deferred compensation (NQDC) plans. 

In response to comments, these final 

regulations clarify the application of the 

grandfather rule to compensation 

payable under these plans by providing 

detailed rules and thus eliminate the 

need to retain certain examples in these 

final regulations. Specifically, with 

respect to an account balance plan, 

these final regulations provide that the 

grandfathered amount under an account 

balance plan is the amount that the 

corporation is obligated to pay pursuant 

to the terms of the plan as of November 

2, 2017, as determined under applicable 

law. If the corporation is obligated to 

pay the employee the account balance 

that is credited with earnings and losses 

and has no right to terminate or 

materially amend the contract, then the 

grandfathered amount would be the 

account balance as of November 2, 2017, 

plus any additional contributions and 

earnings and losses that the corporation 

is obligated to credit under the plan, 

through the date of payment. These final 

regulations provide an analogous rule 

for nonaccount balance plans. 

If the terms of the account balance 

plan that is a written binding contract 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86489 

as of November 2, 2017, provide that the 

corporation may terminate the plan and 

distribute the account balance to the 

employee, then the grandfathered 

amount is the account balance 

determined as if the corporation had 

terminated the plan on November 2, 

2017, or, if later, the earliest possible 

date the plan could be terminated 

(termination date). Furthermore, 

whether additional contributions and 

earnings and losses credited to the 

account balance after the termination 

date, through the earliest possible date 

the account balance could have been 

distributed to the employee, are 

grandfathered depends on whether the 

terms of the plan require the corporation 

to make those contributions or credit 

those earnings and losses through the 

earliest possible date the account 

balance could be distributed if it were 

terminated as of the termination date. 

These final regulations provide an 

analogous rule for nonaccount balance 

plans. 

If the terms of the account balance 

plan provide that the corporation may 

not terminate the contract, but may 

discontinue future contributions to the 

account balance and distribute the 

account balance in accordance with the 

terms of the plan, then the 

grandfathered amount is the account 

balance determined as if the corporation 

had exercised the right to discontinue 

contributions on November 2, 2017 or, 

if later, the earliest permissible date the 

corporation could exercise that right in 

accordance with the terms of the plan 

(the freeze date). Furthermore, if the 

plan required the crediting of earnings 

and losses on the account balance after 

the freeze date through the payment 

date, then those earnings and losses 

credited to the grandfathered account 

balance are also grandfathered. These 

final regulations provide an analogous 

rule for nonaccount balance plans. 

Alternatively, whether the terms of 

the account balance plan provide that 

the corporation may terminate the plan 

or, instead, may discontinue future 

contributions, the corporation may elect 

to treat the account balance as of the 

termination date (or freeze date, if 

applicable) as the grandfathered amount 

regardless of when the amount is paid 

and regardless of whether it has been 

credited with earnings or losses prior to 

payment. These final regulations 

provide an analogous rule for 

nonaccount balance plans. These final 

regulations adopt this alternative 

grandfather rule that disregards earnings 

and losses in order to minimize the 

administrative burden of tracking the 

earnings, losses and new contributions 

(if made) on an account balance plan or 

the increase or decrease in a nonaccount 

balance benefit after November 2, 2017. 

With respect to an account balance plan, 

the Treasury Department and IRS 

understand that this grandfather rule 

may result in contributions made after 

November 2, 2017, not being subject to 

the section 162(m) limitation if the 

contributions offset losses; however, the 

Treasury Department and IRS 

concluded that under many common 

arrangements the continuous separate 

tracking of earnings, losses, and 

contributions on the November 2, 2017, 

account balance through the payment 

date would be burdensome to 

administer while having a limited, if 

any, impact on the available deduction. 

E. Ordering Rule for Payments 

Consisting of Grandfathered and NonGrandfathered Amounts Deductible for 

Taxable Years Ending Prior to December 

20, 2019 

These final regulations adopt the 

ordering rule set forth in the proposed 

regulations for identifying the 

grandfathered amount when payment 

under a grandfathered arrangement is 

made in a series of payments. Pursuant 

to the ordering rule, the grandfathered 

amount is allocated to the first 

otherwise deductible payment paid 

under the arrangement. If the 

grandfathered amount exceeds the 

payment, then the excess is allocated to 

the next otherwise deductible payment 

paid under the arrangement. This 

process is repeated until the entire 

grandfathered amount has been paid. 

For example, assume an employer 

maintains a nonaccount balance NQDC 

plan (payable as an annuity) as of 

November 2, 2017, and that the 

grandfathered amount is $2,000,000. 

Further assume that additional benefits 

accrue under the plan after November 2, 

2017, with the result that the 

employee’s benefit is payable as an 

annual annuity of $1,500,000 

commencing at the employee’s 

retirement for the employee’s life. 

Under these final regulations, the entire 

$1,500,000 paid in the first year is 

grandfathered. In the second year, only 

$500,000 of the $1,500,000 payment is 

grandfathered; the remaining $1,000,000 

paid in the second year is not 

grandfathered. For subsequent taxable 

years, none of the $1,500,000 payments 

are grandfathered. 

A commenter suggested that for 

payments otherwise deductible for 

taxable years ending prior to the date 

the proposed regulations were 

published (December 20, 2019), it 

would be a reasonable good faith 

interpretation of the statute if the 

grandfathered amount were allocated to 

the last otherwise deductible payment 

or to each payment on a pro rata basis. 

The Treasury Department and the IRS 

agree and these final regulations permit 

the grandfathered amount to be 

allocated to the last otherwise 

deductible payment or to each payment 

on a pro rata basis for taxable years 

ending before December 20, 2019. 

However, these final regulations provide 

that the ordering rule requiring the 

grandfathered amount to be allocated to 

the first otherwise deductible payment 

paid under the arrangement must be 

used for taxable years ending on or after 

December 20, 2019, regardless of the 

method used to allocate the 

grandfathered amount for taxable years 

ending prior to that date. 

F. Grandfathered Amount Limited to a 

Particular Plan or Arrangement 

These final regulations provide that 

the grandfathered amount payable 

under a plan or arrangement applies 

solely to the amounts paid under that 

plan or arrangement. Regardless of 

whether all of the grandfathered amount 

is paid to the employee, no portion of 

that grandfathered amount may be 

treated as a grandfathered amount under 

any other separate plan or arrangement 

in which the employee is a participant. 

If, for example, all or a portion of a 

grandfathered amount is forfeited 

because the employee died before being 

paid the entire amount, then any unpaid 

portion of the grandfathered amount 

may not be applied as a grandfathered 

amount to payments under any other 

separate plan or arrangement in which 

the employee participated. 

G. Material Modification 

1. In General 

These final regulations adopt the rules 

set forth in the proposed regulations 

related to material modifications. A 

material modification occurs when a 

contract is amended to increase the 

amount of compensation payable to the 

employee. If a written binding contract 

is materially modified, it is treated as a 

new contract entered into as of the date 

of the material modification. 

Accordingly, if a contract is materially 

modified, amounts received by an 

employee under the contract before the 

material modification are not affected, 

but amounts received after the material 

modification are treated as paid 

pursuant to a new contract, rather than 

as grandfathered. The adoption of a 

supplemental contract or agreement that 

provides for increased compensation, or 

the payment of additional 

compensation, results in a material 

modification if the facts and 

86490 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

17Section 1.162–27(h)(iii)(B) provides that if the 

contract is modified to defer the payment of 

compensation, any compensation paid in excess of 

the amount that was originally payable to the 

employee under the contract will not be treated as 

a material modification if the additional amount is 

based on either a reasonable rate of interest or one 

or more predetermined actual investments (whether 

or not assets associated with the amount originally 

owed are actually invested therein) such that the 

amount payable by the employer at the later date 

will be based on the actual rate of return of the 

specific investment (including any decrease as well 

as any increase in the value of the investment). 

18A non-statutory stock option is an option other 

than an incentive stock option described in section 

422 or a stock option granted under an employee 

stock purchase plan described in section 423. 

19Section 1.409A–1(b)(5)(v)(C)(1) describes the 

following requirements for an extension: (1) At the 

time of the extension, the exercise price is greater 

than the underlying stock’s fair market value and 

(2) the exercise period is extended to a date no later 

than the earlier of the latest date upon which the 

stock right could have expired by its original terms 

or the 10th anniversary of the original date of grant. 

circumstances demonstrate that the 

compensation under the supplement is 

paid on the basis of substantially the 

same elements or conditions as the 

compensation that is otherwise paid 

pursuant to the written binding 

contract. 

If a written binding contract in effect 

on November 2, 2017, is subsequently 

modified to defer the payment of 

compensation, any compensation paid 

or to be paid that is in excess of the 

amount that was originally payable to 

the employee under the contract will 

not be treated as resulting in a material 

modification if the additional amount is 

based on either a reasonable rate of 

interest or a predetermined actual 

investment (whether or not assets 

associated with the original amount are 

actually invested therein) such that the 

amount payable by the employer at the 

later date will be based on the rate of 

interest or the actual rate of return on 

the investment (including any decrease, 

as well as any increase, in the value of 

the investment). However, the 

additional amount paid will not be 

treated as a grandfathered amount. 

Additionally, a modification of the 

contract after November 2, 2017, to offer 

an additional or substitute a 

predetermined actual investment as an 

investment alternative under the 

arrangement is not a material 

modification. 

A commenter suggested that these 

final regulations provide that the 

deferral of a grandfathered amount after 

November 2, 2017, but prior to 

September 10, 2018 (the publication 

date of Notice 2018–68), is not a 

material modification even if the 

earnings on the deferred amount are not 

based on either a reasonable rate of 

interest or a predetermined actual 

investment because taxpayers were not 

aware prior to the publication of the 

notice that this deferral would 

constitute a material modification. The 

grandfather rule described in section 

13601(e) of TCJA and its legislative 

history, including the definition and the 

resulting impact of a material 

modification, is almost identical to the 

statutory language and legislative 

history to the grandfather rule provided 

when section 162(m) was enacted in 

1993. The 1995 final regulations 

interpreting the original grandfather rule 

in the 1993 legislation provided that a 

deferral of payment of compensation 

will not be treated as a material 

modification if any additional amount 

paid were determined based on a 

reasonable rate of interest or one or 

more predetermined actual investments, 

and there is no indication in the 

grandfather rule in section 13601 of 

TCJA or its legislative history of an 

intent to adopt a different grandfather 

rule.17 Therefore, these final regulations 

do not adopt the commenter’s 

suggestion. 

2. Extension of an Exercise Period for a 

Non-Statutory Stock Option 

Commenters asked if extending the 

exercise period for a non-statutory stock 

option 18 is a material modification. The 

grandfather rule in the proposed 

regulations provides that compensation 

attributable to the exercise of an option 

is grandfathered only if, as of November 

2, 2017, pursuant to terms of the option 

and under applicable law, the employer 

is obligated to transfer the option’s 

underlying shares of stock to the 

employee upon exercise of the option. 

The Treasury Department and the IRS 

recognize that, for bona fide business 

reasons, an employer may want to 

extend an exercise period of a stock 

option or a stock appreciation right 

(SAR). This often occurs when a stock 

option or SAR grant agreement provides 

that the exercise period will terminate 

immediately or within a short period 

following the employee’s separation 

from service, but the employer later 

decides to waive that termination or 

otherwise extend the exercise period for 

some period of time upon the 

employee’s separation from service. 

These concerns led to treating certain 

extensions of stock options or SARs as 

not being material modifications in the 

regulations under section 409A. For the 

same reasons, these final regulations 

incorporate the section 409A regulatory 

provisions and provide that, if 

compensation attributable to the 

exercise of a non-statutory stock option 

or a SAR is grandfathered and the 

exercise period of the option or SAR is 

extended, then all compensation 

attributable to the exercise of the option 

or the SAR is grandfathered if the 

extension complies with § 1.409A– 

1(b)(5)(v)(C)(1).19

VII. Coordination With Section 409A 

Section 409A addresses NQDC 

arrangements and sets forth certain 

requirements that must be met to avoid 

current income inclusion, a 20% 

additional income tax on the amount 

includible in income per section 

409A(a)(1)(B)(i)(II), and a second 

additional income tax based on the tax 

benefit received due to the deferral per 

section 409A(a)(1)(B)(i)(I). Recognizing 

that the TCJA amendments to section 

162(m) required coordination with the 

section 409A rules in certain 

circumstances, the preamble to the 

proposed regulations provided that 

certain modifications would be made to 

the regulations under section 409A and 

that taxpayers may rely on the preamble 

until this guidance is issued. 

Commenters suggested additional 

modifications to the rules and 

regulations under section 409A to 

provide further coordination between 

sections 162(m) and 409A. Until 

guidance under section 409A is issued, 

taxpayers may continue to rely on the 

preamble to the proposed regulations. 

The Treasury Department and the IRS 

will continue to consider whether 

additional guidance under section 409A 

is appropriate. 

VIII. Applicability Dates 

A. General Applicability Date 

Generally, these final regulations 

apply to taxable years beginning on or 

after December 30, 2020. However, 

taxpayers may choose to apply these 

final regulations to a taxable year 

beginning after December 31, 2017, 

provided the taxpayer applies these 

final regulations in their entirety and in 

a consistent manner to that taxable year 

and all subsequent taxable years. See 

section 7805(b)(7). Like the proposed 

regulations, these final regulations 

generally do not expand the definition 

of ‘‘covered employee’’ as provided in 

Notice 2018–68 and do not narrow the 

application of the definition of ‘‘written 

binding contract’’ as provided in Notice 

2018–68. With respect to the limited 

number of changes that do affect these 

definitions, a special applicability date 

has been provided as described in 

section VIII.B of this preamble. 

Accordingly, taxpayers may not rely on 

Notice 2018–68 for taxable years ending 

on or after December 20, 2019, the 

publication date of the proposed 

regulations. 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86491 

B. Special Applicability Dates 

These final regulations include 

special applicability dates covering 

certain aspects of the following 

provisions of these final regulations: 

1. Definition of covered employee. 

2. Definition of predecessor of a 

publicly held corporation. 

3. Definition of compensation. 

4. Application of section 162(m) to a 

deduction for compensation otherwise 

deductible for a taxable year ending on 

or after a privately held corporation 

becomes a publicly held corporation. 

5. Definitions of written binding 

contract and material modification. 

First, the definition of covered 

employee applies to taxable years 

ending on or after September 10, 2018, 

the publication date of Notice 2018–68, 

which provided guidance on the 

definition of covered employee. Notice 

2018–68 also provided that the Treasury 

Department and the IRS anticipate that 

the guidance in the notice will be 

incorporated into future regulations 

that, with respect to the issues 

addressed in the notice, will apply to 

any taxable year ending on or after 

September 10, 2018. These final 

regulations adopt the definition of 

covered employee in Notice 2018–68 as 

anticipated, and accordingly the 

definition of covered employee in these 

final regulations applies to taxable years 

ending on or after September 10, 2018. 

The Treasury Department and the IRS 

recognize, however, that the rules under 

§ 1.162–33(c)(2)(i)(B), related to a 

corporation whose fiscal year and 

taxable year do not end on the same 

date, were not addressed in Notice 

2018–68 but were discussed initially in 

the proposed regulations. Accordingly, 

these final regulations provide that, for 

a corporation the fiscal and taxable 

years of which do not end on the same 

date, the rule requiring the 

determination of the three most highly 

compensated executive officers to be 

made pursuant to the rules under the 

Exchange Act applies to taxable years 

ending on or after December 20, 2019. 

Second, the provisions defining a 

predecessor corporation of a publicly 

held corporation apply to corporate 

transactions that occur on or after 

December 30, 2020. These final 

regulations also include a special 

applicability date for corporations that 

change from being a publicly held 

corporation to a privately held 

corporation, and, later, back to a 

publicly held corporation on or after 

December 30, 2020. 

If a corporate transaction occurs 

before December 30, 2020, then 

taxpayers may apply either the 

definition of predecessor of a publicly 

held corporation in § 1.162–33(c)(2)(ii) 

of these final regulations or a reasonable 

good faith interpretation of the term 

‘‘predecessor’’ in section 162(m)(3)(C) 

with respect to such transaction. 

However, with respect to any of the 

following corporate transactions 

occurring after December 20, 2019, and 

before December 30, 2020, excluding 

target corporations from the definition 

of the term ‘‘predecessor’’ is not a 

reasonable good faith interpretation of 

the statute: (1) A publicly held target 

corporation the stock or assets of which 

are acquired by another publicly held 

corporation in a transaction to which 

section 381(a) applies, and (2) a publicly 

held target corporation, at least 80% of 

the total voting power of the stock of 

which, and at least 80% of the total 

value of the stock of which, are acquired 

by a publicly held acquiring corporation 

(including an affiliated group). No 

inference is intended regarding whether 

the treatment of a target corporation as 

other than a ‘‘predecessor’’ in any other 

situation is a reasonable good faith 

interpretation of the statute. 

Third, as discussed in section IV.B. of 

this preamble, these final regulations 

modify the proposed applicability date 

for the definition of compensation 

under § 1.162–33(c)(3)(ii). Under these 

final regulations, the definition of 

compensation under § 1.162–33(c)(3)(ii) 

includes an amount equal to the 

publicly held corporation’s distributive 

share of a partnership’s deduction for 

compensation expense only if the 

deduction is attributable to 

compensation paid by the partnership 

after December 18, 2020 (the date that 

these final regulations were made 

publicly available on the IRS website at 

http://www.irs.gov). However, these 

final regulations continue to provide a 

transition rule so that this aspect of the 

definition of compensation related to 

the distributive share of a partnership’s 

deduction for compensation expense 

does not apply to compensation paid 

after December 30, 2020 if the 

compensation is paid pursuant to a 

written binding contract that is in effect 

on December 20, 2019, and that is not 

materially modified after that date. 

Fourth, the guidance on the 

applicability of section 162(m)(1) to the 

deduction for any compensation 

otherwise deductible for a taxable year 

ending on or after the date when a 

corporation becomes a publicly held 

corporation applies to corporations that 

become publicly held after December 

20, 2019. A corporation that was not a 

publicly held corporation and then 

becomes a publicly held corporation on 

or before December 20, 2019, may rely 

on the transition relief provided in 

§ 1.162–27(f)(1) until the earliest of the 

events provided in § 1.162–27(f)(2). 

Furthermore, a subsidiary corporation 

that is a member of an affiliated group 

(as defined in § 1.162–27(c)(1)(ii)) may 

rely on the transition relief provided in 

§ 1.162–27(f)(4) if it becomes a separate 

publicly held corporation (whether in a 

spin-off transaction or otherwise) on or 

before December 20, 2019. 

Fifth, the definitions of written 

binding contract and material 

modification in these final regulations 

apply to taxable years ending on or after 

September 10, 2018, the publication 

date of Notice 2018–68, which provided 

guidance defining these terms. Notice 

2018–68 also provided that the Treasury 

Department and IRS anticipated that the 

guidance in the notice would be 

incorporated into future regulations 

that, with respect to the issues 

addressed in the notice, would apply to 

any taxable year ending on or after 

September 10, 2018. Because these final 

regulations adopt the definitions of the 

terms ‘‘written binding contract’’ and 

‘‘material modification’’ that were 

included in Notice 2018–68, the 

guidance on these definitions in these 

final regulations applies to taxable years 

ending on or after September 10, 2018. 

Effect on Other Documents 

Section 4.01(13) of Revenue 

Procedure 2020–3, 2020–1 I.R.B. 131 

(providing that ‘‘[w]hether the 

deduction limit under § 162(m) applies 

to compensation attributable to services 

performed for a related partnership’’ is 

an area in which rulings or 

determination letters will not ordinarily 

be issued) is obsolete as of December 30, 

2020. 

Statement of Availability of IRS 

Documents 

The IRS Notices, Revenue Rulings, 

and Revenue Procedures cited in this 

document are published in the Internal 

Revenue Bulletin (or Cumulative 

Bulletin) and are available from the 

Superintendent of Documents, U.S. 

Government Publishing Office, 

Washington, DC 20402, or by visiting 

the IRS website at http://www.irs.gov. 

Special Analyses 

I. Regulatory Planning and Review 

This regulation is not subject to 

review under section 6(b) of Executive 

Order 12866 pursuant to the 

Memorandum of Agreement (April 11, 

2018) between the Department of the 

Treasury and the Office of Management 

and Budget regarding review of tax 

regulations. 

86492 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

II. Regulatory Flexibility Act 

Pursuant to the Regulatory Flexibility 

Act (RFA) (5 U.S.C. chapter 6), it is 

hereby certified that these final 

regulations would not have a significant 

economic impact on a substantial 

number of small entities. This 

certification is based on the fact that 

section 162(m)(1) applies only to 

publicly held corporations (for example, 

corporations that list securities on a 

national securities exchange and are 

rarely small entities) and only impacts 

those publicly held corporations that 

compensate certain executive officers in 

excess of $1 million in a taxable year. 

Pursuant to section 7805(f), the 

proposed regulations preceding these 

final regulations were submitted to the 

Chief Counsel for Advocacy of the Small 

Business Administration for comment 

on its impact on small business, and no 

comments were received. 

III. Unfunded Mandates Reform Act 

Section 202 of the Unfunded 

Mandates Reform Act of 1995 (UMRA) 

requires that agencies assess anticipated 

costs and benefits and take certain 

actions before issuing a final rule that 

includes any Federal mandate that may 

result in expenditures in any one year 

by a state, local, or tribal government, in 

the aggregate, or by the private section, 

of $100 million in 1995 dollars, update 

annually for inflation. This rule does 

not include any Federal mandate that 

may result in expenditures by state, 

local, or tribal governments, or by the 

private section in excess of that 

threshold. 

IV. Executive Order 13132: Federalism 

Executive Order 13132 (entitled 

‘‘Federalism’’) prohibits an agency from 

publishing any rule that has federalism 

implications if the rule either imposes 

substantial, direct compliance costs on 

state and local governments, and is not 

required by statute, or preempts state 

law, unless the agency meets the 

consultation and funding requirements 

of section 6 of the Executive order. This 

final rule does not have federalism 

implications and does not impose 

substantial direct compliance costs on 

state and local governments or preempt 

state law within the meaning of the 

Executive order. 

Drafting Information 

The principal author of these 

regulations is Ilya Enkishev, Office of 

Associate Chief Counsel (Employee 

Benefits, Exempt Organizations, and 

Employment Taxes). However, other 

personnel from the Treasury 

Department and the IRS participated in 

the development of these regulations. 

List of Subjects in 26 CFR Part 1 

Income taxes, Reporting and 

recordkeeping requirements. 

Adoption of Amendments to the 

Regulations 

Accordingly, 26 CFR part 1 is 

amended as follows: 

PART 1—INCOME TAXES 

■ Paragraph 1. The authority citation 

for part 1 continues to read in part as 

follows: 

Authority: 26 U.S.C. 7805 * * * 

■ Par. 2. Section 1.162–27 is amended 

by revising the section heading and 

paragraphs (a) and (j)(1) to read as 

follows: 

§ 1.162–27 Certain employee remuneration 

in excess of $1,000,000 not deductible for 

taxable years beginning on or after January 

1, 1994, and for taxable years beginning 

prior to January 1, 2018. 

(a) Scope. This section provides rules 

for the application of the $1 million 

deduction limitation under section 

162(m)(1) for taxable years beginning on 

or after January 1, 1994, and beginning 

prior to January 1, 2018, and, as 

provided in paragraph (j) of this section, 

for taxable years beginning after 

December 31, 2017. For rules 

concerning the applicability of section 

162(m)(1) to taxable years beginning 

after December 31, 2017, see § 1.162–33. 

Paragraph (b) of this section provides 

the general rule limiting deductions 

under section 162(m)(1). Paragraph (c) 

of this section provides definitions of 

generally applicable terms. Paragraph 

(d) of this section provides an exception 

from the deduction limitation for 

compensation payable on a commission 

basis. Paragraph (e) of this section 

provides an exception for qualified 

performance-based compensation. 

Paragraphs (f) and (g) of this section 

provide special rules for corporations 

that become publicly held corporations 

and payments that are subject to section 

280G, respectively. Paragraph (h) of this 

section provides transition rules, 

including the rules for contracts that are 

grandfathered and not subject to section 

162(m)(1). Paragraph (j) of this section 

contains the effective date provisions, 

which also specify when these rules 

apply to the deduction for 

compensation otherwise deductible in a 

taxable year beginning after December 

31, 2017. For rules concerning the 

deductibility of compensation for 

services that are not covered by section 

162(m)(1) and this section, see section 

162(a)(1) and § 1.162–7. This section is 

not determinative as to whether 

compensation meets the requirements of 

section 162(a)(1). For rules concerning 

the deduction limitation under section 

162(m)(6) applicable to certain health 

insurance providers, see § 1.162–31. 

* * * * * 

(j) * * * 

(1) In general. Section 162(m) and this 

section apply to the deduction for 

compensation that is otherwise 

deductible by the corporation in taxable 

years beginning on or after January 1, 

1994, and beginning prior to January 1, 

2018. Section 162(m) and this section 

also apply to compensation that is a 

grandfathered amount (as defined in 

§ 1.162–33(g)) at the time it is paid to 

the covered employee or otherwise 

deductible. For examples of the 

application of the rules of this section 

to grandfathered amounts paid during or 

otherwise deductible for taxable years 

beginning after December 31, 2017, see 

§ 1.162–33(g). 

* * * * * 

■ Par. 3. Section 1.162–33 is added to 

read as follows: 

§ 1.162–33 Certain employee remuneration 

in excess of $1,000,000 not deductible for 

taxable years beginning after December 31, 

2017. 

(a) Scope. This section provides rules 

for the application of the $1 million 

deduction limitation under section 

162(m)(1) for taxable years beginning 

after December 31, 2017. For rules 

concerning the applicability of section 

162(m)(1) to taxable years beginning on 

or after January 1, 1994, and prior to 

January 1, 2018, see § 1.162–27. 

Paragraph (b) of this section provides 

the general rule limiting deductions 

under section 162(m)(1). Paragraph (c) 

of this section provides definitions of 

generally applicable terms. Paragraph 

(d) of this section provides rules for 

determining when a corporation 

becomes a publicly held corporation. 

Paragraph (e) of this section provides 

rules for payments that are subject to 

section 280G (golden parachute 

payments). Paragraph (f) of this section 

provides a special rule for coordination 

with section 4985 (stock compensation 

of insiders in expatriated corporations). 

Paragraph (g) of this section provides 

transition rules addressing the 

amendments made by Public Law 115– 

97, including the rules for contracts that 

are grandfathered. Paragraph (h) of this 

section sets forth the effective date 

provisions. For rules concerning the 

deductibility of compensation for 

services that are not covered by section 

162(m)(1) and this section, see section 

162(a)(1) and § 1.162–7. This section is 

not determinative as to whether 

compensation meets the requirements of 

section 162(a)(1). For rules concerning 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86493 

the deduction limitation under section 

162(m)(6) applicable to certain health 

insurance providers, see § 1.162–31. For 

purposes of this section, references to an 

amount being paid to an employee refer 

to the event that otherwise would result 

in the availability of a deduction to the 

employer with respect to such amount, 

whether that results from an actual 

payment in cash, transfer of property, or 

other event. 

(b) Limitation on deduction. Section 

162(m)(1) precludes a deduction under 

chapter 1 of the Internal Revenue Code 

by any publicly held corporation for 

compensation paid to any covered 

employee to the extent that the 

compensation for the taxable year 

exceeds $1,000,000. 

(c) Definitions—(1) Publicly held 

corporation—(i) General rule. A 

publicly held corporation means any 

corporation that issues securities 

required to be registered under section 

12 of the Exchange Act or that is 

required to file reports under section 

15(d) of the Exchange Act. In addition, 

a publicly held corporation means any 

S corporation (as defined in section 

1361(a)(1)) that issues securities that are 

required to be registered under section 

12(b) of the Exchange Act, or that is 

required to file reports under section 

15(d) of the Exchange Act. For purposes 

of this section, whether a corporation is 

publicly held is determined based solely 

on whether, as of the last day of its 

taxable year, the securities issued by the 

corporation are required to be registered 

under section 12 of the Exchange Act or 

the corporation is required to file 

reports under section 15(d) of the 

Exchange Act. Whether registration 

under the Exchange Act is required by 

rules other than those of the Exchange 

Act is irrelevant to this determination. 

A publicly traded partnership that is 

treated as a corporation under section 

7704 (or otherwise) is a publicly held 

corporation if, as of the last day of its 

taxable year, its securities are required 

to be registered under section 12 of the 

Exchange Act or it is required to file 

reports under section 15(d) of the 

Exchange Act. 

(ii) Affiliated groups—(A) In general. 

A publicly held corporation includes an 

affiliated group of corporations 

(affiliated group), as defined in section 

1504 (determined without regard to 

section 1504(b)), that includes one or 

more publicly held corporations (as 

defined in paragraph (c)(1)(i) of this 

section). In the case of an affiliated 

group that includes two or more 

publicly held corporations as defined in 

paragraph (c)(1)(i) of this section, each 

member of the affiliated group that is a 

publicly held corporation as defined in 

paragraph (c)(1)(i) of this section is 

separately subject to this section, and, 

due to having at least one member that 

is a publicly held corporation, the 

affiliated group as a whole is subject to 

this section. Thus, for example, assume 

that a publicly held corporation (as 

defined in paragraph (c)(1)(i) of this 

section) is a wholly-owned subsidiary of 

another publicly held corporation (as 

defined in paragraph (c)(1)(i) of this 

section), which is a wholly-owned 

subsidiary of a privately held 

corporation. In this case, the two 

subsidiaries are separately subject to 

this section, and all three corporations 

are members of an affiliated group that 

is subject to this section. If an 

individual is a covered employee of 

both subsidiaries, each subsidiary has 

its own $1 million deduction limitation 

with respect to that covered employee. 

Furthermore, each subsidiary has its 

own set of covered employees as 

defined in paragraphs (c)(2)(i) through 

(iv) of this section (although the same 

individual may be a covered employee 

of both subsidiaries). 

(B) Proration of amount disallowed as 

a deduction. If, in a taxable year, a 

covered employee (as defined in 

paragraphs (c)(2)(i) through (v) of this 

section) of one member of an affiliated 

group is paid compensation by more 

than one member of the affiliated group, 

compensation paid by each member of 

the affiliated group is aggregated with 

compensation paid to the covered 

employee by all other members of the 

affiliated group (excluding 

compensation paid by any other 

publicly held corporation in the 

affiliated group, as defined in paragraph 

(c)(1)(i) of this section, of which the 

individual is also a covered employee as 

defined in paragraphs (c)(2)(i) through 

(v) of this section). In the event that, in 

a taxable year, a covered employee (as 

defined in paragraphs (c)(2)(i) through 

(v) of this section) is paid compensation 

by more than one publicly held 

corporation in an affiliated group and is 

also a covered employee of more than 

one publicly held payor corporation (as 

defined in paragraph (c)(1)(i) of this 

section) in the affiliated group, the 

amount disallowed as a deduction is 

determined separately with respect to 

each publicly held corporation of which 

the individual is a covered employee. 

Any amount disallowed as a deduction 

by this section must be prorated among 

the payor corporations (excluding any 

other publicly held payor corporation of 

which the individual is also a covered 

employee) in proportion to the amount 

of compensation paid to the covered 

employee (as defined in paragraphs 

(c)(2)(i) through (v) of this section) by 

each such corporation in the taxable 

year. For purposes of this paragraph 

(c)(1)(ii)(B), the amount of 

compensation treated as paid by a payor 

corporation that is not a publicly held 

corporation (as defined in paragraph 

(c)(1)(i) of this section) is determined by 

prorating the amount actually paid by 

that payor corporation in proportion to 

the total amount paid by all of the 

publicly held corporations of which the 

individual is a covered employee (as 

defined in paragraph (c)(2)(i) through (v) 

of this section). This process is repeated 

for each publicly held payor corporation 

of which the individual is a covered 

employee. 

(iii) Disregarded entities. For purposes 

of paragraph (c)(1) of this section, a 

publicly held corporation includes a 

corporation that owns an entity that is 

disregarded as an entity separate from 

its owner within the meaning of 

§ 301.7701–2(c)(2)(i) of this chapter if 

the disregarded entity issues securities 

required to be registered under section 

12(b) of the Exchange Act, or is required 

to file reports under section 15(d) of the 

Exchange Act. 

(iv) Qualified subchapter S 

subsidiaries. For purposes of paragraph 

(c)(1) of this section, a publicly held 

corporation includes an S corporation 

that owns a qualified subchapter S 

subsidiary as defined in section 

1361(b)(3)(B) (QSub) if the QSub issues 

securities required to be registered 

under section 12(b) of the Exchange Act, 

or is required to file reports under 

section 15(d) of the Exchange Act. 

(v) Qualified real estate investment 

trust subsidiaries. For purposes of 

paragraph (c)(1) of this section, a 

publicly held corporation includes a 

real estate investment trust as defined in 

section 856(a) that owns a qualified real 

estate investment trust subsidiary as 

defined in section 856(i)(2) (QRS), if the 

QRS issues securities required to be 

registered under section 12(b) of the 

Exchange Act or is required to file 

reports under section 15(d) of the 

Exchange Act. 

(vi) Examples. The following 

examples illustrate the provisions of 

this paragraph (c)(1). For each example, 

assume that no corporation is a 

predecessor of a publicly held 

corporation within the meaning of 

paragraph (c)(2)(ii) of this section. 

Furthermore, for each example, unless 

provided otherwise, a reference to a 

publicly held corporation means a 

publicly held corporation as defined in 

paragraph (c)(1)(i) of this section. 

Additionally, for each example, assume 

that the corporation is a calendar-year 

taxpayer and has a fiscal year ending 

86494 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

December 31 for reporting purposes 

under the Exchange Act. The examples 

in this paragraph (c)(1)(vi) are not 

intended to provide guidance on the 

legal requirements of the Securities Act 

and Exchange Act and the rules 

thereunder (17 CFR part 240). 

(A) Example 1 (Corporation required to file 

reports under section 15(d) of the Exchange 

Act)—(1) Facts. Corporation Z plans to issue 

debt securities in a public offering registered 

under the Securities Act. Corporation Z is not 

required to file reports under section 15(d) of 

the Exchange Act for any other class of 

securities and does not have another class of 

securities required to be registered under 

section 12 of the Exchange Act. On April 1, 

2021, the SEC declares effective the 

Securities Act registration statement for 

Corporation Z’s debt securities. As a result, 

Corporation Z is required to file reports 

under section 15(d) of the Exchange Act, and 

this requirement continues to apply as of 

December 31, 2021. 

(2) Conclusion. Corporation Z is a publicly 

held corporation for its 2021 taxable year 

because it is required to file reports under 

section 15(d) of the Exchange Act as of the 

last day of its taxable year. 

(B) Example 2 (Corporation not required to 

file reports under section 15(d) of the 

Exchange Act)—(1) Facts. The facts are the 

same as in paragraph (c)(1)(vi)(A) of this 

section (Example 1), except that, on January 

1, 2022, pursuant to section 15(d) of the 

Exchange Act, Corporation Z’s obligation to 

file reports under section 15(d) is 

automatically suspended for the fiscal year 

ending December 31, 2022, because 

Corporation Z meets the statutory 

requirements for an automatic suspension. 

As of December 31, 2022, Corporation Z is 

not required to file reports under section 

15(d) of the Exchange Act. 

(2) Conclusion. Corporation Z is not a 

publicly held corporation for its 2022 taxable 

year because it is not required to file reports 

under section 15(d) of the Exchange Act as 

of as of the last day of its taxable year. 

(C) Example 3 (Corporation not required to 

file reports under section 15(d) of the 

Exchange Act)—(1) Facts. The facts are the 

same as in paragraph (c)(1)(vi)(B) of this 

section (Example 2), except that, on January 

1, 2022, pursuant to section 15(d) of the 

Exchange Act, Corporation Z’s obligation to 

file reports under section 15(d) is not 

automatically suspended for the fiscal year 

ending December 31, 2022. Instead, on May 

2, 2022, Corporation Z is eligible to suspend 

its section 15(d) reporting obligation under 

17 CFR 240.12h–3 (Rule 12h–3 under the 

Exchange Act) and files Form 15, 

Certification and Notice of Termination of 

Registration under Section 12(g) of the 

Securities Exchange Act of 1934 or 

Suspension of Duty to File Reports under 

Sections 13 and 15(d) of the Securities 

Exchange Act of 1934, (or its successor) to 

suspend its section 15(d) reporting obligation 

for its fiscal year ending December 31, 2022. 

As of December 31, 2022, Corporation Z is 

not required to file reports under section 

15(d) of the Exchange Act. 

(2) Conclusion. Corporation Z is not a 

publicly held corporation for its 2022 taxable 

year because it is not required to file reports 

under section 15(d) of the Exchange Act as 

of the last day of its taxable year. If 

Corporation Z had not utilized Rule 12h–3 to 

suspend its section 15(d) reporting 

obligation, Corporation Z would be a 

publicly held corporation for its 2022 taxable 

year because it would have been required to 

file reports under section 15(d) of the 

Exchange Act as of the last day of its taxable 

year. 

(D) Example 4 (Corporation required to file 

reports under section 15(d) of the Exchange 

Act)—(1) Facts. Corporation Y is a whollyowned subsidiary of Corporation X, which is 

required to file reports under the Exchange 

Act. Corporation Y issued a class of debt 

securities in a public offering registered 

under the Securities Act, and therefore is 

required to file reports under section 15(d) of 

the Exchange Act for its fiscal year ending 

December 31, 2020. Corporation Y has no 

other class of securities registered under the 

Exchange Act. In its Form 10–K, Annual 

Report Pursuant to section 13 or section 15(d) 

of the Securities Exchange Act of 1934, (or 

its successor) for the 2020 fiscal year, 

Corporation Y may omit Item 11, Executive 

Compensation (required by Part III of Form 

10–K), which requires disclosure of 

compensation of certain executive officers, 

because it is wholly-owned by Corporation X 

and the other conditions of General 

Instruction I to Form 10–K are satisfied. 

(2) Conclusion. Corporation Y is a publicly 

held corporation for its 2020 taxable year 

because it is required to file reports under 

section 15(d) of the Exchange Act as of the 

last day of its taxable year. 

(E) Example 5 (Corporation not required to 

file reports under section 15(d) of the 

Exchange Act and not required to register 

securities under section 12 of the Exchange 

Act)—(1) Facts. Corporation A has a class of 

securities registered under section 12(g) of 

the Exchange Act. For its 2020 taxable year, 

Corporation A is a publicly held corporation. 

On September 30, 2021, Corporation A is 

eligible to terminate the registration of its 

securities under section 12(g) of the 

Exchange Act pursuant to 17 CFR 240.12g– 

4(a)(2) (Rule 12g–4(a)(2) under the Exchange 

Act), but does not terminate the registration 

of its securities prior to December 31, 2021. 

Because Corporation A did not issue 

securities in a public offering registered 

under the Securities Act, Corporation A is 

not required to file reports under section 

15(d) of the Exchange Act. 

(2) Conclusion. Corporation A is not a 

publicly held corporation for its 2021 taxable 

year because, as of the last day of its taxable 

year, the securities issued by Corporation A 

are not required to be registered under 

section 12 of the Exchange Act and 

Corporation A is not required to file reports 

under section 15(d) of the Exchange Act. 

(F) Example 6 (Corporation required to file 

reports under section 15(d) of the Exchange 

Act)—(1) Facts. The facts are the same as in 

paragraph (c)(1)(vi)(E) of this section 

(Example 5), except that Corporation A 

previously issued a class of securities in a 

public offering registered under the 

Securities Act. Furthermore, on October 1, 

2021, Corporation A terminates the 

registration of its securities under section 

12(g) of the Exchange Act. Because 

Corporation A issued a class of securities in 

a public offering registered under the 

Securities Act and is not eligible to suspend 

its reporting obligation under section 15(d) of 

the Exchange Act, as of December 31, 2021, 

Corporation A is required to file reports 

under section 15(d) of the Exchange Act. 

(2) Conclusion. Corporation A is a publicly 

held corporation for its 2021 taxable year 

because it is required to file reports under 

section 15(d) of the Exchange Act as of the 

last day of its taxable year. 

(G) Example 7 (Corporation not required to 

file reports under section 15(d) of the 

Exchange Act and not required to register 

securities under section 12 of the Exchange 

Act)—(1) Facts. On November 1, 2021, 

Corporation B is an issuer with only one 

class of equity securities. On November 5, 

2021, Corporation B files a registration 

statement for its equity securities under 

section 12(g) of the Exchange Act. 

Corporation B’s filing of its registration 

statement is voluntary because the Exchange 

Act does not require Corporation B to register 

its class of securities under section 12(g) of 

the Exchange Act based on the number and 

composition of its record holders. On 

December 1, 2021, the SEC declares effective 

the Exchange Act registration statement for 

Corporation B’s securities. As of December 

31, 2021, Corporation B continues to have its 

class of equity securities registered 

voluntarily under section 12 of the Exchange 

Act. Corporation B is not required to file 

reports under section 15(d) of the Exchange 

Act because it did not register any class of 

securities in a public offering under the 

Securities Act. 

(2) Conclusion. Corporation B is not a 

publicly held corporation for its 2021 taxable 

year because, as of the last day of that taxable 

year, the securities issued by Corporation B 

are not required to be registered under 

section 12 of the Exchange Act and 

Corporation B is not required to file reports 

under section 15(d) of the Exchange Act. 

(H) Example 8 (Corporation not required to 

file reports under section 15(d) of the 

Exchange Act and not required to register 

securities under section 12 of the Exchange 

Act)—(1) Facts. The facts are the same as in 

paragraph (c)(1)(vi)(G) of this section 

(Example 7), except that, on December 31, 

2022, because of a change in circumstances, 

Corporation B must register its class of equity 

securities under section 12(g) of the 

Exchange Act within 120 days of December 

31, 2022. On February 1, 2023, the SEC 

declares effective the Exchange Act 

registration statement for Corporation B’s 

securities. 

(2) Conclusion. Corporation B is not a 

publicly held corporation for its 2022 taxable 

year because, as of the last day of that taxable 

year, Corporation B is not required to file 

reports under section 15(d) of the Exchange 

Act and the class of equity securities issued 

by Corporation B is not yet required to be 

registered under section 12 of the Exchange 

Act. 

(I) Example 9 (Securities of foreign private 

issuer in the form of ADRs traded in the overthe-counter market)—(1) Facts. For its fiscal 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86495 

and taxable years ending December 31, 2021, 

Corporation W is a foreign private issuer. 

Because Corporation W has not registered an 

offer or sale of securities under the Securities 

Act, it is not required to file reports under 

section 15(d) of the Exchange Act. 

Corporation W qualifies for an exemption 

from registration of its securities under 

section 12(g) of the Exchange Act pursuant to 

17 CFR 240.12g3–2(b) (Rule 12g3–2(b) under 

the Exchange Act). Corporation W wishes to 

have its securities traded in the U.S. in the 

over-the-counter market in the form of ADRs. 

Because Corporation W qualifies for an 

exemption pursuant to Rule 12g3–2(b), 

Corporation W is not required to register its 

securities underlying the ADRs under section 

12 of the Exchange Act; however, the 

depositary bank is required to register the 

ADRs under the Securities Act. Even though 

the depositary bank is required to register the 

ADRs under the Securities Act, the 

registration of the ADRs does not result in 

either the depositary bank or Corporation W 

being required to file reports under section 

15(d) of the Exchange Act. On February 3, 

2021, the SEC declares effective the 

Securities Act registration statement for the 

ADRs. On February 4, 2021, Corporation W’s 

ADRs begin trading in the over-the-counter 

market. On December 31, 2021, the securities 

of Corporation W are not required to be 

registered under section 12 of the Exchange 

Act because Corporation W qualifies for an 

exemption pursuant to Rule 240.12g3–2(b). 

Furthermore, on December 31, 2021, 

Corporation W is not required to file reports 

under section 15(d) of the Exchange Act. 

(2) Conclusion. Corporation W is not a 

publicly held corporation for its 2021 taxable 

year because, as of the last day of that taxable 

year, the securities underlying the ADRs are 

not required to be registered under section 12 

of the Exchange Act and Corporation W is 

not required to file reports under section 

15(d) of the Exchange Act. The result would 

be the same if Corporation W had its 

securities traded in the over-the-counter 

market other than in the form of ADRs. 

(J) Example 10 (Securities of foreign private 

issuer in the form of ADRs quoted on Over 

the Counter Bulletin Board)—(1) Facts. The 

facts are the same as in paragraph (c)(1)(vi)(I) 

of this section (Example 9), except that 

Corporation W has its securities quoted on 

the Over the Counter Bulletin Board (OTCBB) 

in the form of ADRs. Because Corporation W 

qualifies for an exemption pursuant to 17 

CFR 240.12g3–2(b) (Rule 12g3–2(b) under the 

Exchange Act), Corporation W is not required 

to register its securities underlying the ADRs 

under section 12 of the Exchange Act. 

However, the depositary bank is required to 

register the ADRs under the Securities Act. 

In addition, section 6530(b)(1) of the OTCBB 

Rules requires that a foreign equity security 

may be quoted on the OTCBB only if the 

security is registered with the SEC pursuant 

to section 12 of the Exchange Act and the 

issuer of the security is current in its 

reporting obligations. To comply with the 

OTCBB Rules, on February 5, 2021, 

Corporation W files a registration statement 

for its class of securities underlying the ADRs 

under section 12(g) of the Exchange Act. On 

February 26, 2021, the SEC declares effective 

the Exchange Act registration statement for 

Corporation W’s securities. As of December 

31, 2021, Corporation W is subject to the 

reporting obligations under section 12 of the 

Exchange Act as a result of the section 12 

registration. 

(2) Conclusion. Corporation W is not a 

publicly held corporation for its 2021 taxable 

year because, as of the last day of that taxable 

year, its ADRs and the securities underlying 

the ADRs are not required by the Exchange 

Act to be registered under section 12 and 

Corporation W is not required to file reports 

under section 15(d) of the Exchange Act. The 

Securities Act requirement applicable to the 

bank pursuant to the OTCBB rules is 

irrelevant. The result would be the same if 

Corporation W had its securities traded on 

the OTCBB other than in the form of ADRs. 

(K) Example 11 (Securities of foreign 

private issuer in the form of ADRs listed on 

a national securities exchange without a 

capital raising transaction)—(1) Facts. For its 

fiscal and taxable years ending December 31, 

2021, Corporation V is a foreign private 

issuer. Corporation V wishes to list its 

securities on the New York Stock Exchange 

(NYSE) in the form of ADRs without a capital 

raising transaction. Under the Exchange Act, 

Corporation V is required to register its 

securities underlying the ADRs under section 

12(b) of the Exchange Act. Because the ADRs 

and the deposited securities are separate 

securities, the depositary bank is required to 

register the ADRs under the Securities Act. 

On February 2, 2021, the SEC declares 

effective Corporation V’s registration 

statement under section 12(b) of the 

Exchange Act in connection with the 

underlying securities, and the depositary 

bank’s registration statement under the 

Securities Act in connection with the ADRs. 

On March 1, 2021, Corporation V’s securities 

begin trading on the NYSE in the form of 

ADRs. As of December 31, 2021, Corporation 

V is not required to file reports under section 

15(d) of the Exchange Act; however, the 

securities underlying the ADRs are required 

to be registered under section 12(b) of the 

Exchange Act. 

(2) Conclusion. Corporation V is a publicly 

held corporation for its 2021 taxable year 

because, as of the last day of that taxable 

year, the securities underlying the ADRs are 

required to be registered under section 12 of 

the Exchange Act. The result would be the 

same if Corporation V had its securities listed 

on the NYSE other than in the form of ADRs. 

The result also would be the same if 

Corporation V had wished to raised capital 

during its 2021 taxable year and been 

required to register the offer of securities 

underlying the ADRs under the Securities 

Act and to register the class of those 

securities under section 12(b) of the 

Exchange Act, and the depositary bank was 

required to register the ADRs under the 

Securities Act. 

(L) Example 12 (Foreign private issuer 

incorporates subsidiary in the United States 

to issue debt securities and subsequently 

issues a guarantee)—(1) Facts. For its fiscal 

and taxable years ending December 31, 2021, 

Corporation T is a foreign private issuer. 

Corporation T wishes to access the U.S. 

capital markets. Corporation T incorporates 

Corporation U, a wholly-owned subsidiary, 

in the U.S. to issue debt securities. On 

January 15, 2021, the SEC declares effective 

Corporation U’s Securities Act registration 

statement. To enhance Corporation U’s credit 

and the marketability of Corporation U’s debt 

securities, Corporation T issues a guarantee 

of Corporation U’s securities and, as 

required, registers the guarantee under the 

Securities Act on Corporation U’s registration 

statement. On December 31, 2021, 

Corporations T and U are required to file 

reports under section 15(d) of the Exchange 

Act. 

(2) Conclusion. Corporations T and U are 

publicly held corporations for their 2021 

taxable years because they are required to file 

reports under section 15(d) of the Exchange 

Act as of the last day of their taxable years. 

(M) Example 13 (Affiliated group 

comprised of two corporations, one of which 

is a publicly held corporation)—(1) Facts. 

Employee D, a covered employee of 

Corporation N, receives compensation from, 

Corporations N and O, members of an 

affiliated group. Corporation N, the parent 

corporation, is a publicly held corporation. 

Corporation O is a direct subsidiary of 

Corporation N and is a privately held 

corporation. The total compensation paid to 

Employee D from the affiliated group 

members is $3,000,000 for the taxable year, 

of which Corporation N pays $2,100,000 and 

Corporation O pays $900,000. 

(2) Conclusion. Because the compensation 

paid by all affiliated group members is 

aggregated for purposes of section 162(m)(1), 

$2,000,000 of the aggregate compensation 

paid is nondeductible. Corporations N and O 

each are treated as paying a ratable portion 

of the nondeductible compensation. Thus, 

two thirds of each corporation’s payment will 

be nondeductible. Corporation N has a 

nondeductible compensation expense of 

$1,400,000 ($2,100,000 × $2,000,000/ 

$3,000,000). Corporation O has a 

nondeductible compensation expense of 

$600,000 ($900,000 × $2,000,000/ 

$3,000,000). 

(N) Example 14 (Affiliated group 

comprised of two corporations, one of which 

is a publicly held corporation)—(1) Facts. 

The facts are the same as in paragraph 

(c)(1)(vi)(M) of this section (Example 13), 

except that Corporation O is a publicly held 

corporation, Corporation N is a privately held 

corporation, and Employee D is a covered 

employee of Corporation O (instead of 

Corporation N). 

(2) Conclusion. The result is the same as 

in paragraph (c)(1)(vi)(M) of this section 

(Example 13). Even though subsidiary 

Corporation O is the publicly held 

corporation, Corporations N and O still 

comprise an affiliated group. Accordingly, 

$2,000,000 of the aggregate compensation 

paid is nondeductible, and Corporations N 

and O each are treated as paying a ratable 

portion of the nondeductible compensation. 

(O) Example 15 (Affiliated group 

comprised of two publicly held 

corporations)—(1) Facts. The facts are the 

same as in paragraph (c)(1)(vi)(M) of this 

section (Example 13), except that 

Corporation O is a publicly held corporation. 

As in paragraph (c)(1)(vi)(M) of this section 

86496 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

(Example 13), Employee D is not a covered 

employee of Corporation O. 

(2) Conclusion. The result is the same as 

in paragraph (c)(1)(vi)(M) of this section 

(Example 13). Even though Corporations N 

and O each are publicly held corporations, 

Corporations N and O comprise an affiliated 

group for purposes of prorating the amount 

disallowed as a deduction. Accordingly, 

$2,000,000 of the aggregate compensation 

paid is nondeductible, and Corporations N 

and O each are treated as paying a ratable 

portion of the nondeductible compensation. 

(P) Example 16 (Affiliated group comprised 

of two publicly held corporations)—(1) Facts. 

The facts are the same as in paragraph 

(c)(1)(vi)(O) of this section (Example 15), 

except that Employee D also is a covered 

employee of Corporation O. 

(2) Conclusion. Corporations N and O each 

are publicly held corporations and separately 

subject to this section, but also comprise an 

affiliated group. Because Employee D is a 

covered employee of both Corporations N 

and O, each of which is a separate publicly 

held corporation, the determination of the 

amount disallowed as a deduction is made 

separately for each publicly held corporation. 

Corporation N has a nondeductible 

compensation expense of $1,100,000 (the 

excess of $2,100,000 over $1,000,000), and 

Corporation O has no nondeductible 

compensation expense because the amount it 

paid to Employee D did not exceed 

$1,000,000. 

(Q) Example 17 (Affiliated group 

comprised of three corporations, one of 

which is a publicly held corporation)—(1) 

Facts. Employee C, a covered employee of 

publicly held parent Corporation P, receives 

compensation from Corporations P, Q, and R, 

members of an affiliated group. Corporation 

Q is a direct subsidiary of Corporation P, and 

Corporation R is a direct subsidiary of 

Corporation Q. Corporations Q and R both 

are privately held. The total compensation 

paid to Employee C from the affiliated group 

members is $3,000,000 for the taxable year, 

of which Corporation P pays $1,500,000, 

Corporation Q pays $900,000, and 

Corporation R pays $600,000. 

(2) Conclusion. Because the compensation 

paid by affiliated group members is 

aggregated for purposes of section 162(m)(1), 

$2,000,000 of the aggregate compensation 

paid is nondeductible. Corporations P, Q, 

and R each are treated as paying a ratable 

portion of the nondeductible compensation. 

Thus, two thirds of each corporation’s 

payment will be nondeductible. The 

nondeductible compensation expense for 

Corporation P is $1,000,000 ($1,500,000 × 

$2,000,000/$3,000,000); for Corporation Q is 

$600,000 ($900,000 × $2,000,000/ 

$3,000,000); and for Corporation R is 

$400,000 ($600,000 × $2,000,000/ 

$3,000,000). 

(R) Example 18 (Affiliated group 

comprised of three corporations, one of 

which is a publicly held corporation)—(1) 

Facts. The facts are the same as in paragraph 

(c)(1)(vi)(Q) of this section (Example 17), 

except that Corporation Q is a publicly held 

corporation and Corporation P is a privately 

held corporation, and Employee C is a 

covered employee of Corporation Q (instead 

of Corporation P). 

(2) Conclusion. The result is the same as 

in paragraph (c)(1)(vi)(Q) of this section 

(Example 17). Even though Corporation Q, 

the subsidiary, is the publicly held 

corporation, Corporations P, Q, and R 

comprise an affiliated group. Accordingly, 

$2,000,000 of the aggregate compensation 

paid is nondeductible, and Corporations P, 

Q, and R each are treated as paying a ratable 

portion of the nondeductible compensation. 

(S) Example 19 (Affiliated group comprised 

of three corporations, two of which are 

publicly held corporations)—(1) Facts. The 

facts are the same as in paragraph (c)(1)(vi)(R) 

of this section (Example 18), except that 

Corporation R also is a publicly held 

corporation. As in paragraph (c)(1)(vi)(R) of 

this section (Example 18), Corporation Q is 

a publicly held corporation, Corporation P is 

a privately held corporation, and Employee 

C is a covered employee of Corporation Q but 

not a covered employee of Corporation R. 

(2) Conclusion. The result is the same as 

in paragraph (c)(1)(vi)(R) of this section 

(Example 18). Even though Corporation R 

also is a publicly held corporation, 

Corporations P, Q, and R comprise an 

affiliated group. Accordingly, $2,000,000 of 

the aggregate compensation paid is 

nondeductible, and Corporations P, Q, and R 

each are treated as paying a ratable portion 

of the nondeductible compensation. 

(T) Example 20 (Affiliated group 

comprised of three publicly held 

corporations)—(1) Facts. The facts are the 

same as in paragraph (c)(1)(vi)(Q) of this 

section (Example 17), except that 

Corporations Q and R also are publicly held 

corporations, and Employee C is a covered 

employee of both Corporations P and Q but 

is not a covered employee of Corporation R. 

(2) Conclusion. Even though Corporations 

P, Q, and R each are publicly held 

corporations, they comprise an affiliated 

group. Because Employee C is a covered 

employee of both Corporations P and Q, the 

determination of the amount disallowed as a 

deduction is separately prorated among 

Corporations P and R and among 

Corporations Q and R. For each separate 

calculation of the total amount of the 

disallowed deduction and the proration of 

the disallowed deduction, the amount paid 

by Corporation R is taken into account in 

proportion to the total compensation paid by 

Corporations P and Q. With respect to 

Corporations P and R, $875,000 of the 

aggregate compensation is nondeductible (the 

excess of $1,875,000 (the sum of the 

compensation paid by Corporation P 

($1,500,000) and the portion of compensation 

paid by Corporation R that is treated as 

allocable to Employee C being a covered 

employee of Corporation P ($600,000 × 

$1,500,000/($1,500,000 + $900,000) = 

$375,000) over the $1,000,000 deduction 

limitation). Corporations P and R each are 

treated as paying a ratable portion of the 

nondeductible compensation. Corporation P 

has a nondeductible compensation expense 

of $700,000 ($1,500,000 × $875,000/ 

$1,875,000), and Corporation R has a 

nondeductible compensation expense of 

$175,000 ($375,000 × $875,000/$1,875,000). 

For Corporations Q and R, $125,000 of the 

aggregate compensation is nondeductible (the 

excess of $1,125,000 (the sum of the 

compensation paid by Corporation Q 

($900,000) and the portion of compensation 

paid by Corporation R that is treated as 

allocable to Employee C being a covered 

employee of Corporation Q ($600,000 × 

$900,000/($1,500,000 + $900,000) = 

$225,000) over the $1,000,000 deduction 

limitation). Corporation Q has a 

nondeductible compensation expense of 

$100,000 ($900,000 × $125,000/$1,125,000), 

and Corporation R has a nondeductible 

compensation expense of $25,000 ($225,000 

× $125,000/$1,125,000). The total 

nondeductible compensation expense for 

Corporation R is $200,000. 

(U) Example 21 (Affiliated group 

comprised of three publicly held 

corporations)—(1) Facts. The facts are the 

same as in paragraph (c)(1)(vi)(T) of this 

section (Example 20), except that Employee 

C does not receive any compensation from 

Corporation R. 

(2) Conclusion. Even though Corporations 

P, Q, and R each are publicly held 

corporations and separately subject to this 

section, they comprise an affiliated group. 

Because Employee C is a covered employee 

of, and receives compensation from, both 

Corporations P and Q, each of which is a 

separate publicly held corporation, the 

determination of the amount disallowed as a 

deduction is made separately for 

Corporations P and Q. Corporation P has a 

nondeductible compensation expense of 

$500,000 (the excess of $1,500,000 over 

$1,000,000), and Corporation Q has no 

nondeductible compensation expense 

because the amount it paid to Employee C 

was below $1,000,000. 

(V) Example 22 (Affiliated group 

comprised of three corporations, one of 

which is a publicly held corporation)—(1) 

Facts. The facts are the same as in paragraph 

(c)(1)(vi)(Q) of this section (Example 17), 

except that Corporation R is a direct 

subsidiary of Corporation P (and not a direct 

subsidiary of Corporation Q). 

(2) Conclusion. The result is the same as 

in paragraph (c)(1)(vi)(Q) of this section 

(Example 17). Corporations P, Q, and R 

comprise an affiliated group. Accordingly, 

$2,000,000 of the aggregate compensation 

paid is nondeductible, and Corporations P, 

Q, and R each are treated as paying a ratable 

portion of the nondeductible compensation. 

(W) Example 23 (Affiliated group 

comprised of three publicly held 

corporations)—(1) Facts. The facts are the 

same as in paragraph (c)(1)(vi)(V) of this 

section (Example 22), except that 

Corporations Q and R also are publicly held 

corporations, and Employee C is a covered 

employee of both Corporations P and Q but 

not of Corporation R. 

(2) Conclusion. The result is the same as 

in paragraph (c)(1)(vi)(V) of this section 

(Example 22). Even though Corporations P, 

Q, and R each are publicly held corporations, 

they comprise an affiliated group. Because 

Employee C is a covered employee of both 

Corporations P and Q, the amount disallowed 

as a deduction is prorated separately among 

Corporations P and R and among 

Corporations Q and R. 

(X) Example 24 (Disregarded entity)—(1) 

Facts. Corporation G is privately held for its 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86497 

2020 taxable year. Entity H, a limited liability 

company, is wholly-owned by Corporation G 

and is disregarded as an entity separate from 

its owner under § 301.7701–2(c)(2)(i) of this 

chapter. As of December 31, 2020, Entity H 

is required to file reports under section 15(d) 

of the Exchange Act. 

(2) Conclusion. Because Entity H is 

required to file reports under section 15(d) of 

the Exchange Act and is disregarded as an 

entity separate from its owner, Corporation G 

is a publicly held corporation for its 2020 

taxable year. The result would be the same 

if Corporation G was a REIT under section 

856(a) and Entity H was a QRS under section 

856(i)(2). 

(2) Covered employee—(i) General 

rule. Except as provided in paragraph 

(c)(2)(vi) of this section, with respect to 

a publicly held corporation as defined 

in paragraph (c)(1) of this section 

(without regard to paragraph (c)(1)(ii) of 

this section), for the publicly held 

corporation’s taxable year, a covered 

employee means any of the following— 

(A) The principal executive officer 

(PEO) or principal financial officer 

(PFO) of the publicly held corporation 

serving at any time during the taxable 

year, including individuals acting in 

either such capacity. 

(B) The three highest compensated 

executive officers of the publicly held 

corporation for the taxable year (other 

than the principal executive officer or 

principal financial officer, or an 

individual acting in such capacity), 

regardless of whether the executive 

officer is serving at the end of the 

publicly held corporation’s taxable year, 

and regardless of whether the executive 

officer’s compensation is subject to 

disclosure for the last completed fiscal 

year under the executive compensation 

disclosure rules under the Exchange 

Act. For purposes of this paragraph 

(c)(2)(i)(B), the term ‘‘executive officer’’ 

means an executive officer as defined in 

17 CFR 240.3b–7. The amount of 

compensation used to identify the three 

most highly compensated executive 

officers for the taxable year is 

determined pursuant to the executive 

compensation disclosure rules under 

the Exchange Act (using the taxable year 

as the fiscal year for purposes of making 

the determination), regardless of 

whether the corporation’s fiscal year 

and taxable year end on the same date. 

(C) Any individual who was a covered 

employee of the publicly held 

corporation (or any predecessor of a 

publicly held corporation, within the 

meaning of paragraph (c)(2)(ii) of this 

section) for any preceding taxable year 

beginning after December 31, 2016. For 

taxable years beginning prior to January 

1, 2018, covered employees are 

identified in accordance with the rules 

in § 1.162–27(c)(2). 

(ii) Predecessor of a publicly held 

corporation—(A) Publicly held 

corporations that become privately held. 

For purposes of this paragraph (c)(2)(ii), 

a predecessor of a publicly held 

corporation includes a publicly held 

corporation that, after becoming a 

privately held corporation, again 

becomes a publicly held corporation for 

a taxable year ending before the 36- 

month anniversary of the due date for 

the corporation’s U.S. Federal income 

tax return (disregarding any extensions) 

for the last taxable year for which the 

corporation was previously publicly 

held. 

(B) Corporate reorganizations. A 

predecessor of a publicly held 

corporation includes a publicly held 

corporation the stock or assets of which 

are acquired in a corporate 

reorganization (as defined in section 

368(a)(1)). 

(C) Corporate divisions. A predecessor 

of a publicly held corporation includes 

a publicly held corporation that is a 

distributing corporation (within the 

meaning of section 355(a)(1)(A)) that 

distributes the stock of a controlled 

corporation (within the meaning of 

section 355(a)(1)(A)) to its shareholders 

in a distribution or exchange qualifying 

under section 355(a)(1) (corporate 

division). The rule of this paragraph 

(c)(2)(ii)(C) applies only with respect to 

covered employees of the distributing 

corporation who begin performing 

services for the controlled corporation 

(or for a corporation affiliated with the 

controlled corporation that receives 

stock of the controlled corporation in 

the corporate division) within the 

period beginning 12 months before and 

ending 12 months after the distribution. 

(D) Affiliated groups. A predecessor of 

a publicly held corporation includes 

any other publicly held corporation that 

becomes a member of its affiliated group 

(as defined in paragraph (c)(1)(ii) of this 

section). 

(E) Asset acquisitions. If a publicly 

held corporation, including one or more 

members of an affiliated group as 

defined in paragraph (c)(1)(ii) of this 

section (acquiror), acquires at least 80% 

of the gross operating assets (determined 

by fair market value on the date of 

acquisition) of another publicly held 

corporation (target), then the target is a 

predecessor of the acquiror. For an 

acquisition of assets that occurs over 

time, only assets acquired within a 12- 

month period are taken into account to 

determine whether at least 80% of the 

target’s gross operating assets were 

acquired. However, this 12-month 

period is extended to include any 

continuous period that ends on, or 

begins on, any day during which the 

acquiror has an arrangement to 

purchase, directly or indirectly, assets of 

the target. A shareholder’s additions to 

the assets of target made as part of a 

plan or arrangement to avoid the 

application of this subsection to 

acquiror’s purchase of target’s assets are 

disregarded in applying this paragraph 

(c)(2)(ii)(E). This paragraph (c)(2)(ii)(E) 

applies only with respect to the target’s 

covered employees who begin 

performing services for the acquiror (or 

a corporation affiliated with the 

acquiror) within the period beginning 

12 months before and ending 12 months 

after the date of the transaction as 

defined in paragraph (c)(2)(ii)(I) of this 

section (incorporating any extensions to 

the 12-month period made pursuant to 

this paragraph). 

(F) Predecessor of a predecessor. For 

purposes of this paragraph (c)(2)(ii), a 

predecessor of a corporation includes 

each predecessor of the corporation and 

the predecessor or predecessors of any 

prior predecessor or predecessors. 

(G) Corporations that are not publicly 

held at the time of the transaction and 

sequential transactions—(1) Predecessor 

corporation is not publicly held at the 

time of the transaction. This paragraph 

(c)(2)(ii)(G)(1) applies if a corporation 

that was previously publicly held (the 

first corporation) would be a 

predecessor to another corporation (the 

second corporation) under the rules of 

this paragraph (c)(2)(ii) but for the fact 

that the first corporation is not a 

publicly held corporation at the time of 

the relevant transaction (or 

transactions). If this paragraph 

(c)(2)(ii)(G)(1) applies, the first 

corporation is a predecessor of a 

publicly held corporation if the second 

corporation is a publicly held 

corporation at the time of the relevant 

transaction (or transactions) and the 

relevant transaction (or transactions) 

take place during a taxable year ending 

before the 36-month anniversary of the 

due date for the first corporation’s U.S. 

Federal income tax return (excluding 

any extensions) for the last taxable year 

for which the first corporation was 

previously publicly held. 

(2) Second corporation is not publicly 

held at the time of the transaction. This 

paragraph (c)(2)(ii)(G)(2) applies if a 

corporation that is publicly held (the 

first corporation) at the time of the 

relevant transaction (or transactions) 

would be a predecessor to another 

corporation (the second corporation) 

under the rules of this paragraph 

(c)(2)(ii) but for the fact that the second 

corporation is not a publicly held 

corporation at the time of the relevant 

transaction (or transactions). If this 

paragraph (c)(2)(ii)(G)(2) applies, the 

86498 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

first corporation is a predecessor of a 

publicly held corporation if the second 

corporation becomes a publicly held 

corporation for a taxable year ending 

before the 36-month anniversary of the 

due date for the first corporation’s U.S. 

Federal income tax return (excluding 

any extensions) for the first 

corporation’s last taxable year in which 

the transaction is taken into account. 

(3) Neither corporation is publicly 

held at the time of the transaction. This 

paragraph (c)(2)(ii)(G)(3) applies if a 

corporation that was previously 

publicly held (the first corporation) 

would be a predecessor to another 

corporation (the second corporation) 

under the rules of this paragraph 

(c)(2)(ii) but for the fact that neither the 

first corporation nor the second 

corporation is a publicly held 

corporation at the time of the relevant 

transaction (or transactions). If this 

paragraph (c)(2)(ii)(G)(3) applies, the 

first corporation is a predecessor of a 

publicly held corporation if the second 

corporation becomes a publicly held 

corporation for a taxable year ending 

before the 36-month anniversary of the 

due date for the first corporation’s U.S. 

Federal income tax return (excluding 

any extensions) for the last taxable year 

for which the first corporation was 

previously publicly held. 

(4) Sequential transactions. If a 

corporation that was previously 

publicly held (the first corporation) 

would be a predecessor to another 

corporation (the second corporation) 

under the rules of this paragraph 

(c)(2)(ii) but for the fact that the first 

corporation is (or its assets are) 

transferred to one or more intervening 

corporations prior to being transferred 

to the second corporation, and if each 

intervening corporation would be a 

predecessor of a publicly held 

corporation with respect to the second 

corporation if the intervening 

corporation or corporations were 

publicly held corporations, then 

paragraphs (c)(2)(ii)(G)(1) through (3) of 

this section also apply without regard to 

the intervening corporations. 

(H) Elections under sections 336(e) 

and 338. For purposes of this paragraph 

(c)(2), if a corporation makes an election 

to treat as an asset purchase either the 

sale, exchange, or distribution of stock 

pursuant to regulations under section 

336(e) (§§ 1.336–1 through 1.336–5) or 

the purchase of stock pursuant to 

regulations under section 338 (§§ 1.338– 

1 through 1.338–11, 1.338(h)(10)–1, and 

1.338(i)–1), the corporation that issued 

the stock is treated as the same 

corporation both before and after such 

transaction. 

(I) Date of transaction. For purposes 

of this paragraph (c)(2)(ii), the date that 

a transaction is treated as having 

occurred is the date on which all events 

necessary for the transaction to be 

described in the relevant provision in 

this paragraph (c)(2)(ii) have occurred. 

(J) Publicly traded partnership. For 

purposes of applying this paragraph 

(c)(2)(ii), a publicly traded partnership 

is a predecessor of a publicly held 

corporation if under the same facts and 

circumstances a corporation substituted 

for the publicly traded partnership 

would be a predecessor of the publicly 

held corporation, and at the time of the 

transaction the publicly traded 

partnership is treated as a publicly held 

corporation as defined in paragraph 

(c)(1)(i) of this section. In making this 

determination, the rules in paragraphs 

(c)(2)(ii)(A) through (I) of this section 

apply by analogy to publicly traded 

partnerships. 

(iii) Disregarded entities. If a publicly 

held corporation under paragraph (c)(1) 

of this section owns an entity that is 

disregarded as an entity separate from 

its owner under § 301.7701–2(c)(2)(i) of 

this chapter, then the covered 

employees of the publicly held 

corporation are determined pursuant to 

paragraphs (c)(2)(i) and (ii) of this 

section. The executive officers of the 

entity that is disregarded as an entity 

separate from its corporate owner under 

§ 301.7701–2(c)(2)(i) of this chapter are 

neither covered employees of the entity 

nor of the publicly held corporation 

unless they meet the definition of 

covered employee in paragraphs (c)(2)(i) 

and (ii) of this section with respect to 

the publicly held corporation, in which 

case they are covered employees for its 

taxable year. 

(iv) Qualified subchapter S 

subsidiaries. If a publicly held 

corporation under paragraph (c)(1) of 

this section owns an entity that is a 

QSub under section 1361(b)(3)(B), then 

the covered employees of the publicly 

held corporation are determined 

pursuant to paragraphs (c)(2)(i) and (ii) 

of this section. The executive officers of 

the QSub are neither covered employees 

of the QSub nor of the publicly held 

corporation unless they meet the 

definition of covered employee in 

paragraphs (c)(2)(i) and (ii) of this 

section with respect to the publicly held 

corporation, in which case they are 

covered employees for the taxable year 

of the publicly held corporation. 

(v) Qualified real estate investment 

trust subsidiaries. If a publicly held 

corporation under paragraph (c)(1) of 

this section owns an entity that is a QRS 

under section 856(i)(2), then the covered 

employees of the publicly held 

corporation are determined pursuant to 

paragraphs (c)(2)(i) and (ii) of this 

section. The executive officers of the 

QRS are neither covered employees of 

the QRS nor of the publicly held 

corporation unless they meet the 

definition of covered employee in 

paragraphs (c)(2)(i) and (ii) of this 

section with respect to the publicly held 

corporation, in which case they are 

covered employees for the taxable year 

of the publicly held corporation. 

(vi) Covered employee of an affiliated 

group. A person who is identified as a 

covered employee in paragraphs (c)(2)(i) 

through (v) of this section for a publicly 

held corporation’s taxable year is also a 

covered employee for the taxable year of 

an affiliated group treated as a publicly 

held corporation pursuant to paragraph 

(c)(1)(ii) of this section (treatment of an 

affiliated group). 

(vii) Examples. The following 

examples illustrate the provisions of 

this paragraph (c)(2). For each example, 

assume that the corporation has a 

taxable year that is a calendar year and 

has a fiscal year ending December 31 for 

reporting purposes under the Exchange 

Act. Also, for each example, unless 

provided otherwise, assume that none of 

the employees were covered employees 

for any taxable year preceding the first 

taxable year set forth in that example 

(since being a covered employee for a 

preceding taxable year would provide a 

separate, independent basis for 

classifying that employee as a covered 

employee for a subsequent taxable year). 

(A) Example 1 (Covered employees of 

members of an affiliated group)—(1) Facts. 

Corporations A, B, and C are direct whollyowned subsidiaries of Corporation D. 

Corporations D and A are each publicly held 

corporations as of December 31, 2020. 

Corporations B and C are not publicly held 

corporations for their 2020 taxable years. 

Employee E served as the PEO of Corporation 

D from January 1, 2020, to March 31, 2020. 

Employee F served as the PEO of Corporation 

D from April 1, 2020, to December 31, 2020. 

Employee G served as the PEO of Corporation 

A for its entire 2020 taxable year. Employee 

H served as the PEO of Corporation B for its 

entire 2020 taxable year. Employee I served 

as the PEO of Corporation C for its entire 

2020 taxable year. From April 1, 2020, 

through September 30, 2020, Employee E 

served as an advisor (not as a PEO) to 

Employee I and received compensation from 

Corporation C for these services. In 2020, all 

four corporations paid compensation to their 

respective PEOs. 

(2) Conclusion (Employees E and F). 

Because both Employees E and F served as 

the PEO of Corporation D during its 2020 

taxable year, both Employees E and F are 

covered employees of Corporation D for its 

2020 and subsequent taxable years. 

(3) Conclusion (Employee G). Because 

Employee G served as the PEO of Corporation 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86499 

A, Employee G is a covered employee of 

Corporation A for its 2020 and subsequent 

taxable years. 

(4) Conclusion (Employee H). Even though 

Employee H served as the PEO of 

Corporation B, Employee H is not a covered 

employee of Corporation B for its 2020 

taxable year, because Corporation B is 

considered a publicly held corporation solely 

by reason of being a member of an affiliated 

group as defined in paragraph (c)(1)(ii) of this 

section. 

(5) Conclusion (Employee I). Even though 

Employee I served as the PEO of Corporation 

C, Employee I is not a covered employee of 

Corporation C for its 2020 taxable year, 

because Corporation C is considered a 

publicly held corporation solely by reason of 

being a member of an affiliated group as 

defined in paragraph (c)(1)(ii) of this section. 

(B) Example 2 (Covered employees of a 

publicly held corporation)—(1) Facts. 

Corporation J is a publicly held corporation. 

Corporation J is not a smaller reporting 

company or emerging growth company for 

purposes of reporting under the Exchange 

Act. For 2020, Employee K served as the sole 

PEO of Corporation J and Employees L and 

M both served as the PFO of Corporation J 

at separate times during the year. Employees 

N, O, and P were, respectively, the first, 

second, and third highest compensated 

executive officers of Corporation J for 2020 

other than the PEO and PFO, and all three 

retired before December 31, 2020. Employees 

Q, R, and S were, respectively, Corporation 

J’s fourth, fifth, and sixth highest 

compensated executive officers other than 

the PEO and PFO for 2020, and all three were 

serving as of December 31, 2020. On March 

1, 2021, Corporation J filed its Form 10–K, 

Annual Report Pursuant to Section 13 or 

15(d) of the Securities Exchange Act of 1934 

with the SEC. With respect to Item 11, 

Executive Compensation (as required by Part 

III of Form 10–K, or its successor), 

Corporation J disclosed the compensation of 

Employee K for serving as the PEO, 

Employees L and M for serving as the PFO, 

and Employees Q, R, and S pursuant to 17 

CFR 229.402(a)(3)(iii) (Item 402 of Regulation 

S–K). Corporation J also disclosed the 

compensation of Employees N and O 

pursuant to 17 CFR 229.402(a)(3)(iv) (Item 

402 of Regulation S–K). 

(2) Conclusion (Employee K). Because 

Employee K served as the PEO during 2020, 

Employee K is a covered employee for 

Corporation J’s 2020 taxable year. 

(3) Conclusion (Employees L and M). 

Because Employees L and M served as the 

PFO during 2020, Employees L and M are 

covered employees for Corporation J’s 2020 

taxable year. 

(4) Conclusion (Employees N, O, P, Q, R, 

and S). Even though the executive 

compensation disclosure rules under the 

Exchange Act require Corporation J to 

disclose the compensation of Employees N, 

O, Q, R, and S for 2020, Corporation J’s three 

highest compensated executive officers who 

are covered employees for its 2020 taxable 

year are Employees N, O, and P, because 

these are the three highest compensated 

executive officers other than the PEO and 

PFO for 2020. 

(C) Example 3 (Covered employees of a 

smaller reporting company)—(1) Facts. The 

facts are the same as in paragraph 

(c)(2)(vii)(B) of this section (Example 2), 

except that Corporation J is a smaller 

reporting company or emerging growth 

company for purposes of reporting under the 

Exchange Act. With respect to Item 11, 

Executive Compensation, Corporation J 

disclosed the compensation of Employee K 

for serving as the PEO, Employees Q and R 

pursuant to 17 CFR 229.402(m)(2)(ii) (Item 

402(m) of Regulation S–K), and Employees N 

and O pursuant to 17 CFR 229.402(m)(2)(iii) 

(Item 402(m) of Regulation S–K). 

(2) Conclusion. The result is the same as 

in paragraph (c)(2)(vii)(L) of this section 

(Example 2). For purposes of identifying a 

corporation’s covered employees, it is 

irrelevant whether the reporting obligation 

under the Exchange Act for smaller reporting 

companies and emerging growth companies 

apply to the corporation, and it is irrelevant 

whether the specific executive officers’ 

compensation must be disclosed pursuant to 

the disclosure rules under the Exchange Act 

applicable to the corporation. 

(D) Example 4 (Covered employees of a 

publicly held corporation that is not required 

to file a Form 10–K)—(1) Facts. The facts are 

the same as in paragraph (c)(2)(vii)(B) of this 

section (Example 2), except that on February 

4, 2021, Corporation J files Form 15, 

Certification and Notice of Termination of 

Registration under Section 12(g) of the 

Securities Exchange Act of 1934 or 

Suspension of Duty to File Reports under 

Sections 13 and 15(d) of the Securities 

Exchange Act of 1934, (or its successor) to 

terminate the registration of its securities. 

Corporation J’s duty to file reports under 

Section 13(a) of the Exchange Act is 

suspended upon the filing of the Form 15 

and, as a result, Corporation J is not required 

to file a Form 10–K and disclose the 

compensation of its executive officers for 

2020. 

(2) Conclusion. The result is the same as 

in paragraph (c)(2)(vii)(B) of this section 

(Example 2). Covered employees include 

executive officers of a publicly held 

corporation even if the corporation is not 

required to disclose the compensation of its 

executive officers under the Exchange Act. 

Therefore, Employees K, L, M, N, O, and P 

are covered employees for 2020. The result 

would be different if Corporation J filed Form 

15 to terminate the registration of its 

securities prior to December 31, 2020. In that 

case, Corporation J would not be a publicly 

held corporation for its 2020 taxable year, 

and, therefore, Employees K, L, M, N, O, and 

P would not be covered employees for 

Corporation J’s 2020 taxable year. 

(E) Example 5 (Covered employees of two 

publicly held corporations after a corporate 

transaction)—(1) Facts. Corporation T is a 

publicly held corporation for its 2019 taxable 

year. Corporation U is a privately held 

corporation for its 2019 and 2020 taxable 

years. On July 31, 2020, Corporation U 

acquires for cash 80% of the only class of 

outstanding stock of Corporation T. The 

affiliated group (comprised of Corporations U 

and T) elects to file a consolidated Federal 

income tax return. As a result of this election, 

Corporation T has a short taxable year ending 

on July 31, 2020. Corporation T does not 

change its fiscal year for reporting purposes 

under the Exchange Act to correspond to the 

short taxable year. Corporation T remains a 

publicly held corporation for its short taxable 

year ending on July 31, 2020, and its 

subsequent taxable year ending on December 

31, 2020, for which it files a consolidated 

Federal income tax return with Corporation 

U. For Corporation T’s taxable year ending 

July 31, 2020, Employee V serves as the only 

PEO, and Employee W serves as the only 

PFO. Employees X, Y, and Z are the three 

most highly compensated executive officers 

of Corporation T for the taxable year ending 

July 31, 2020, other than the PEO and PFO. 

As a result of the acquisition, effective July 

31, 2020, Employee V ceases to serve as the 

PEO of Corporation T. Instead, Employee AA 

starts serving as the PEO of Corporation T on 

August 1, 2020. Employee V continues to 

provide services for Corporation T but never 

serves as PEO again (or as an individual 

acting in such capacity). For Corporation T’s 

taxable year ending December 31, 2020, 

Employee AA serves as the only PEO, and 

Employee W serves as the only PFO. 

Employees X, Y, and Z continue to serve as 

executive officers of Corporation T during the 

taxable year ending December 31, 2020. 

Employees BB, CC, and DD are the three most 

highly compensated executive officers of 

Corporation T, other than the PEO and PFO, 

for the taxable year ending December 31, 

2020. 

(2) Conclusion (Employee V). Because 

Employee V served as the PEO during 

Corporation T’s short taxable year ending 

July 31, 2020, Employee V is a covered 

employee for Corporation T’s short taxable 

year ending July 31, 2020, even though 

Employee V’s compensation is required to be 

disclosed pursuant to the executive 

compensation disclosure rules under the 

Exchange Act only for the fiscal year ending 

December 31, 2020. Because Employee V was 

a covered employee for Corporation T’s short 

taxable year ending July 31, 2020, Employee 

V is also a covered employee for Corporation 

T’s short taxable year ending December 31, 

2020. 

(3) Conclusion (Employee W). Because 

Employee W served as the PFO during 

Corporation T’s short taxable years ending 

July 31, 2020, and December 31, 2020, 

Employee W is a covered employee for both 

taxable years, even though Employee W’s 

compensation is required to be disclosed 

pursuant to the executive compensation 

disclosure rules under the Exchange Act only 

for the fiscal year ending December 31, 2020. 

Because Employee W was a covered 

employee for Corporation T’s short taxable 

year ending July 31, 2020, Employee W 

would be a covered employee for Corporation 

T’s short taxable year ending December 31, 

2020, even if Employee W did not serve as 

the PFO during this taxable year. 

(4) Conclusion (Employee AA). Because 

Employee AA served as the PEO during 

Corporation T’s short taxable year ending 

December 31, 2020, Employee AA is a 

covered employee for that short taxable year. 

(5) Conclusion (Employees X, Y, and Z). 

Employees X, Y, and Z are covered 

86500 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

employees for Corporation T’s short taxable 

years ending July 31, 2020, and December 31, 

2020. Employees X, Y, and Z are covered 

employees for Corporation T’s short taxable 

year ending July 31, 2020, because those 

employees are the three highest compensated 

executive officers for that short taxable year. 

Because they were covered employees for 

Corporation T’s short taxable year ending 

July 31, 2020, Employees X, Y, and Z are 

covered employees for Corporation T’s short 

taxable year ending December 31, 2020 and 

would be covered employees for that later 

short taxable year even if their compensation 

would not be required to be disclosed 

pursuant to the executive compensation 

disclosure rules under the Exchange Act. 

(6) Conclusion (Employees BB, CC, and 

DD). Employees BB, CC, and DD are covered 

employees for Corporation T’s short taxable 

year ending December 31, 2020, because 

those employees are the three highest 

compensated executive officers for that short 

taxable year. 

(F) Example 6 (Predecessor of a publicly 

held corporation)—(1) Facts. Corporation EE 

is a publicly held corporation for its 2021 

taxable year. Corporation EE is a privately 

held corporation for its 2022 and 2023 

taxable years. For its 2024 taxable year, 

Corporation EE is a publicly held 

corporation. 

(2) Conclusion. For its 2024 taxable year, 

Corporation EE is a predecessor of a publicly 

held corporation within the meaning of 

paragraph (c)(2)(ii)(A) of this section because, 

after ceasing to be a publicly held 

corporation, it again became a publicly held 

corporation for a taxable year ending prior to 

April 15, 2025. Therefore, for Corporation 

EE’s 2024 taxable year, the covered 

employees of Corporation EE include the 

covered employees of Corporation EE for its 

2021 taxable year and any additional covered 

employees determined pursuant to this 

paragraph (c)(2). 

(G) Example 7 (Predecessor of a publicly 

held corporation)—(1) Facts. The facts are 

the same as in paragraph (c)(2)(vii)(F) of this 

section (Example 6), except that Corporation 

EE remains a privately held corporation until 

it becomes a publicly held corporation for its 

2027 taxable year. 

(2) Conclusion. Corporation EE is not a 

predecessor of a publicly held corporation 

within the meaning of paragraph (c)(2)(ii)(A) 

of this section because it became a publicly 

held corporation for a taxable year ending 

after April 15, 2025. Therefore, any covered 

employee of Corporation EE for its 2021 

taxable year is not a covered employee of 

Corporation EE for its 2027 taxable year due 

to that individual’s status as a covered 

employee of Corporation EE for a preceding 

taxable year (beginning after December 31, 

2016) but may be a covered employee due to 

that individual’s status during the 2027 

taxable year. 

(H) Example 8 (Predecessor of a publicly 

held corporation that is party to a merger)— 

(1) Facts. On June 30, 2021, Corporation FF 

(a publicly held corporation) merged into 

Corporation GG (a publicly held corporation) 

in a transaction that qualifies as a 

reorganization under section 368(a)(1)(A), 

with Corporation GG as the surviving 

corporation. As a result of the merger, 

Corporation FF has a short taxable year 

ending June 30, 2021. Corporation FF is a 

publicly held corporation for this short 

taxable year. Corporation GG does not have 

a short taxable year and is a publicly held 

corporation for its 2021 taxable year. 

(2) Conclusion. Corporation FF is a 

predecessor of a publicly held corporation 

within the meaning of paragraph (c)(2)(ii)(B) 

of this section. Therefore, any covered 

employee of Corporation FF for its short 

taxable year ending June 30, 2021, is a 

covered employee of Corporation GG for its 

2021 taxable year. For Corporation GG’s 2021 

and subsequent taxable years, the covered 

employees of Corporation GG include the 

covered employees of Corporation FF (for a 

preceding taxable year beginning after 

December 31, 2016) and any additional 

covered employees determined pursuant to 

this paragraph (c)(2). 

(I) Example 9 (Predecessor of a publicly 

held corporation that is party to a merger)— 

(1) Facts. The facts are the same as in 

paragraph (c)(2)(vii)(H) of this section 

(Example 8), except that, after the merger, 

Corporation GG is a privately held 

corporation for its 2021 taxable year. 

(2) Conclusion. Because Corporation GG is 

a privately held corporation for its 2021 

taxable year, it is not subject to section 

162(m)(1) for this taxable year. 

(J) Example 10 (Predecessor of a publicly 

held corporation that is party to a merger)— 

(1) Facts. The facts are the same as in 

paragraph (c)(2)(vii)(I) of this section 

(Example 9), except that Corporation GG, 

becomes a publicly held corporation (as 

defined in paragraph (c)(1)(i) of this section) 

on June 30, 2023, and is a publicly held 

corporation for its 2023 taxable year. 

(2) Conclusion. Because Corporation GG 

became a publicly held corporation for a 

taxable year ending prior to April 15, 2025, 

Corporation FF is a predecessor of a publicly 

held corporation within the meaning of 

paragraph (c)(2)(ii)(G) of this section. For 

Corporation GG’s 2023 and subsequent 

taxable years, the covered employees of 

Corporation GG include the covered 

employees of Corporation FF (for a preceding 

taxable year beginning after December 31, 

2016) and any additional covered employees 

determined pursuant to this paragraph (c)(2). 

(K) Example 11 (Predecessor of a publicly 

held corporation that is party to a merger)— 

(1) Facts. The facts are the same as in 

paragraph (c)(2)(vii)(J) of this section 

(Example 10), except that Corporation FF is 

a privately held corporation for its taxable 

year ending June 30, 2021, but was a publicly 

held corporation for its 2020 taxable year. 

(2) Conclusion. Even though Corporation 

FF was a privately held corporation when it 

merged with Corporation GG on June 30, 

2021, Corporation FF will be a predecessor 

corporation if Corporation GG becomes a 

publicly held corporation within a taxable 

year ending prior to April 15, 2024. Because 

Corporation GG became a publicly held 

corporation for its taxable year ending 

December 31, 2023, Corporation FF is a 

predecessor of a publicly held corporation 

within the meaning of paragraph (c)(2)(ii)(G) 

of this section. For Corporation GG’s 2023 

and subsequent taxable years, the covered 

employees of Corporation GG include the 

covered employees of Corporation FF (for a 

preceding taxable year beginning after 

December 31, 2016) and any additional 

covered employees determined pursuant to 

this paragraph (c)(2). 

(L) Example 12 (Predecessor of a publicly 

held corporation that is party to a merger and 

subsequently becomes member of an 

affiliated group)—(1) Facts. The facts are the 

same as in paragraph (c)(2)(vii)(J) of this 

section (Example 10), except that, on June 30, 

2022, Corporation GG becomes a publicly 

held corporation by becoming a member of 

an affiliated group (as defined in paragraph 

(c)(1)(ii) of this section). Corporation II is the 

parent corporation of the group and is a 

publicly held corporation. Employee HH was 

a covered employee of Corporation FF for its 

taxable year ending June 30, 2021. On July 

1, 2022, Employee HH becomes an employee 

of Corporation II. 

(2) Conclusion. By becoming a member of 

an affiliated group (as defined in paragraph 

(c)(1)(ii) of this section) on June 30, 2022, 

Corporation GG became a publicly held 

corporation for a taxable year ending prior to 

April 15, 2025. Therefore, Corporation FF is 

a predecessor of a publicly held corporation 

(Corporation GG) within the meaning of 

paragraph (c)(2)(ii)(G) of this section. 

Furthermore, Corporation FF is also a 

predecessor of Corporation II, a publicly held 

corporation within the meaning of paragraph 

(c)(2)(ii)(G) of this section. For Corporation 

II’s 2022 and subsequent taxable years, 

Employee HH is a covered employee of the 

affiliated group that includes Corporation II 

because Employee HH was a covered 

employee of Corporation FF for its taxable 

year ending June 30, 2021. 

(M) Example 13 (Predecessor of a publicly 

held corporation that is party to a merger and 

subsequently becomes member of an 

affiliated group)—(1) Facts. The facts are the 

same as in paragraph (c)(2)(vii)(L) of this 

section (Example 12), except that 

Corporation FF was a privately held 

corporation for its taxable year ending June 

30, 2021, and Employee HH was a covered 

employee of Corporation FF for its taxable 

year ending December 31, 2020. 

(2) Conclusion. Even though Corporation 

FF was a privately held corporation when it 

merged with Corporation GG on June 30, 

2021, Corporation FF will be a predecessor 

corporation if Corporation GG becomes a 

publicly held corporation for a taxable year 

ending prior to April 15, 2024. Because 

Corporation GG became a publicly held 

corporation for its 2022 taxable year by 

becoming a member of an affiliated group (as 

defined in paragraph (c)(1)(ii) of this section), 

Corporation FF is a predecessor of a publicly 

held corporation (Corporation GG) within the 

meaning of paragraph (c)(2)(ii)(G) of this 

section. Furthermore, Corporation FF is also 

a predecessor of Corporation II, a publicly 

held corporation within the meaning of 

paragraph (c)(2)(ii)(G) of this section. 

Therefore, any covered employee of 

Corporation FF for its 2020 taxable year is a 

covered employee of the affiliated group that 

includes Corporation II for its 2022 and 

subsequent taxable years. For Corporation II’s 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86501 

2022 taxable year, Employee HH is a covered 

employee of the affiliated group that includes 

Corporation II because Employee HH was a 

covered employee of Corporation FF for its 

2020 taxable year. 

(N) Example 14 (Predecessor of a publicly 

held corporation that is a party to a 

merger)—(1) Facts. Corporation JJ is a 

publicly held corporation for its 2019 taxable 

year and is incorporated in State KK. On June 

1, 2019, Corporation JJ formed a whollyowned subsidiary, Corporation LL. 

Corporation LL is a publicly held corporation 

incorporated in State MM. On June 30, 2021, 

Corporation JJ merged into Corporation LL 

under State MM law in a transaction that 

qualifies as a reorganization under section 

368(a)(1)(A), with Corporation LL as the 

surviving corporation. As a result of the 

merger, Corporation JJ has a short taxable 

year ending June 30, 2021. Corporation JJ is 

a publicly held corporation for this short 

taxable year. 

(2) Conclusion. Corporation JJ is a 

predecessor of a publicly held corporation 

within the meaning of paragraph (c)(2)(ii)(B) 

of this section. For Corporation LL’s taxable 

years ending after June 30, 2021, the covered 

employees of Corporation LL include the 

covered employees of Corporation JJ for its 

short taxable year ending June 30, 2021 (as 

well as preceding taxable years beginning 

after December 31, 2016) and any additional 

covered employees determined pursuant to 

this paragraph (c)(2). 

(O) Example 15 (Predecessor of a publicly 

held corporation becomes member of an 

affiliated group)—(1) Facts. On June 30, 

2021, Corporation OO acquires for cash 

100% of the only class of outstanding stock 

of Corporation NN. The affiliated group 

(comprised of Corporations NN and OO) 

elects to file a consolidated Federal income 

tax return. As a result of this election, 

Corporation NN has a short taxable year 

ending on June 30, 2021. Corporation NN is 

a publicly held corporation for its taxable 

year ending June 30, 2021, and a privately 

held corporation for subsequent taxable 

years. On June 30, 2022, Corporation OO 

completely liquidates Corporation NN. 

Corporation OO is a publicly held 

corporation for its 2021 and 2022 taxable 

years. 

(2) Conclusion. After Corporation OO 

acquired Corporation NN, Corporations NN 

and OO comprise an affiliated group as 

defined in paragraph (c)(1)(ii) of this section. 

Thus, Corporation NN is a predecessor of a 

publicly held corporation within the 

meaning of paragraph (c)(2)(ii)(D) of this 

section. For Corporation OO’s taxable years 

ending after June 30, 2021, the covered 

employees of Corporation OO include the 

covered employees of Corporation NN for its 

short taxable year ending June 30, 2021 (as 

well as preceding taxable years beginning 

after December 31, 2016) and any additional 

covered employees determined pursuant to 

this paragraph (c)(2). 

(P) Example 16 (Predecessor of a publicly 

held corporation becomes member of an 

affiliated group)—(1) Facts. The facts are the 

same as in paragraph (c)(2)(vii)(O) of this 

section (Example 15), except that 

Corporation OO is a privately held 

corporation on June 30, 2021, and for its 2021 

and 2022 taxable years. 

(2) Conclusion. Because Corporation OO is 

a privately held corporation for its 2021 and 

2022 taxable years, it is not subject to section 

162(m)(1) for these taxable years. 

(Q) Example 17 (Predecessor of a publicly 

held corporation becomes member of an 

affiliated group)—(1) Facts. The facts are the 

same as in paragraph (c)(2)(vii)(P) of this 

section (Example 16), except that, on October 

1, 2022, the SEC declares effective 

Corporation OO’s Securities Act registration 

statement in connection with its initial 

public offering, and Corporation OO is a 

publicly held corporation for its 2022 taxable 

year. 

(2) Conclusion (Taxable Year Ending 

December 31, 2021). Because Corporation OO 

is a privately held corporation for its 2021 

taxable year, it is not subject to section 

162(m)(1) for this taxable year. 

(3) Conclusion (Taxable Year Ending 

December 31, 2022). For the 2022 taxable 

year, Corporations NN and OO comprise an 

affiliated group as defined in paragraph 

(c)(1)(ii) of this section. Corporation NN is a 

predecessor of a publicly held corporation 

within the meaning of paragraph (c)(2)(ii)(D) 

and (G) of this section because Corporation 

OO became a publicly held corporation for a 

taxable year ending prior to April 15, 2025. 

For Corporation OO’s 2022 and subsequent 

taxable years, the covered employees of 

Corporation OO include the covered 

employees of Corporation NN for its short 

taxable year ending June 30, 2021 (as well as 

preceding taxable years beginning after 

December 31, 2016) and any additional 

covered employees determined pursuant to 

this paragraph (c)(2). 

(R) Example 18 (Predecessor of a publicly 

held corporation and asset acquisition)—(1) 

Facts. Corporations VV, WW, and XX are 

publicly held corporations for their 2020 and 

2021 taxable years. Corporations VV and WW 

are members of an affiliated group. 

Corporation WW is a direct subsidiary of 

Corporation VV. On June 30, 2021, 

Corporation VV acquires for cash 40% of the 

gross operating assets (determined by fair 

market value as of January 31, 2022) of 

Corporation XX. On January 31, 2022, 

Corporation WW acquires an additional 40% 

of the gross operating assets (determined by 

fair market value as of January 31, 2022) of 

Corporation XX. Employees EB, EC, and EA 

are covered employees for Corporation XX’s 

2020 taxable year. Employees ED and EF are 

also covered employees for Corporation XX’s 

2021 taxable year. On January 15, 2021, 

Employee EA started performing services as 

an employee of Corporation WW. On July 1, 

2021, Employee EB started performing 

services as an employee of Corporation WW. 

On February 1, 2022, Employees EC and ED 

started performing services as employees of 

Corporation WW. On June 30, 2023, 

Employee EF started performing services as 

an employee of Corporation WW. 

(2) Conclusion. Because an affiliated group, 

comprised of Corporations VV and WW, 

acquired 80% of Corporation XX’s gross 

operating assets (determined by fair market 

value) within a twelve-month period, 

Corporation XX is a predecessor of a publicly 

held corporation within the meaning of 

paragraph (c)(2)(ii)(E) of this section. 

Therefore, any covered employee of 

Corporation XX for its 2020 and 2021 taxable 

years (who started performing services as an 

employee of Corporation WW within the 

period beginning 12 months before and 

ending 12 months after the date of the 

January 31, 2022, acquisition (determined 

under paragraph (c)(2)(ii)(I) of this section) is 

a covered employee of Corporation WW for 

its 2021, 2022, and subsequent taxable years. 

For Corporation WW’s 2021 and subsequent 

taxable years, the covered employees of 

Corporation WW include Employee EB and 

any additional covered employees 

determined pursuant to paragraph (c)(2)(i) of 

this section. For Corporation WW’s 2022 and 

subsequent taxable years, the covered 

employees of Corporation WW include 

Employees EB, EC, and ED, and any 

additional covered employees determined 

pursuant to this paragraph (c)(2). Because 

Employee EA started performing services as 

an employee of Corporation WW before 

January 31, 2021, Employee EA is not a 

covered employee of Corporation WW for its 

2021 taxable year and subsequent taxable 

years by reason of paragraph (c)(2)(ii)(E) of 

this section, but may be a covered employee 

of Corporation WW by application of other 

rules in this paragraph (c)(2). Because 

Employee EF started performing services as 

an employee of Corporation WW after 

January 31, 2023, Employee EF is not a 

covered employee of Corporation WW for its 

2023 taxable year by reason of paragraph 

(c)(2)(ii)(E) of this section, but may be a 

covered employee of Corporation WW by 

application of other rules in this paragraph 

(c)(2). 

(S) Example 19 (Predecessor of a publicly 

held corporation and asset acquisition)—(1) 

Facts. The facts are the same as in paragraph 

(c)(2)(vii)(R) of this section (Example 18), 

except that Corporations VV and WW are not 

publicly held corporations on June 30, 2021, 

or for their 2021 taxable years. 

(2) Conclusion. Because Corporations VV 

and WW are not publicly held corporations 

for their 2021 taxable years, they are not 

subject to section 162(m)(1) for their 2021 

taxable years. 

(T) Example 20 (Predecessor of a publicly 

held corporation and asset acquisition)—(1) 

Facts. The facts are the same as in paragraph 

(c)(2)(vii)(R) of this section (Example 18), 

except that, on October 1, 2022, the SEC 

declares effective Corporation VV’s Securities 

Act registration statement in connection with 

its initial public offering, and Corporation VV 

is a publicly held corporation for its 2022 

taxable year. 

(2) Conclusion (2021 taxable year). Because 

Corporations VV and WW are not publicly 

held corporations for their 2021 taxable 

years, they are not subject to section 

162(m)(1) for their 2021 taxable years. 

(3) Conclusion (2022 taxable year). 

Corporation XX is a predecessor of a publicly 

held corporation within the meaning of 

paragraphs (c)(2)(ii)(E) and (G) of this section 

because a member of the affiliated group 

comprised of Corporations VV and WW 

acquired 80% of Corporation XX’s gross 

operating assets (determined by fair market 

86502 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

value) within a twelve-month period ending 

on January 31, 2022, and the parent of the 

affiliated group, Corporation VV, 

subsequently became a publicly held 

corporation for a taxable year ending prior to 

April 15, 2024. Therefore, any covered 

employee of Corporation XX for its 2020 and 

2021 taxable years (who started performing 

services as an employee of Corporation WW 

within the period beginning 12 months 

before and ending 12 months after the 

acquisition) is a covered employee of the 

affiliated group comprised of Corporations 

VV and WW for its 2022 and subsequent 

taxable years. For Corporation WW’s 2022 

and subsequent taxable years, the covered 

employees of Corporation WW include 

Employees EB, EC, and ED, and any 

additional covered employees determined 

pursuant to this paragraph (c)(2). 

(U) Example 21 (Predecessor of a publicly 

held corporation and a division)—(1) Facts. 

Corporation CA is a publicly held 

corporation for its 2021 and 2022 taxable 

years. On March 2, 2021, Corporation DDD 

forms a wholly-owned subsidiary, 

Corporation CB, and transfers assets to it. On 

April 1, 2022, Corporation CA distributes all 

shares of Corporation CB to its shareholders 

in a transaction described in section 

355(a)(1). On April 1, 2022, the SEC declares 

effective Corporation CB’s Securities Act 

registration statement in connection with its 

initial public offering. Corporation CB is a 

publicly held corporation for its 2022 taxable 

year. Employee EG serves as the PFO of 

Corporation CA from January 1, 2022, to 

March 31, 2022. On April 2, 2022, Employee 

EG starts performing services as an employee 

of Corporation CB advising the PFO of 

Corporation CB. After March 31, 2022, 

Employee EG ceases to provide services for 

Corporation CA. 

(2) Conclusion. Because the distribution of 

the stock of Corporation CB is a transaction 

described under section 355(a)(1), 

Corporation CA is a predecessor of 

Corporation CB within the meaning of 

paragraph (c)(2)(ii)(C) of this section. Because 

Employee EG was a covered employee of 

Corporation CA for its 2022 taxable year, 

Employee ED is a covered employee of 

Corporation CB for its 2022 taxable year. The 

result is the same whether Employee EG 

performs services as an advisor for 

Corporation CB as an employee or an 

independent contractor. 

(V) Example 22 (Predecessor of a publicly 

held corporation and a division)—(1) Facts. 

The facts are the same as in paragraph 

(c)(2)(vii)(U) of this section (Example 21), 

except that Corporation CA distributes 100% 

of the shares of Corporation CB to 

Corporation CD in exchange for all of 

Corporation CD’s stock in Corporation CA in 

a transaction described in section 355(a)(1) 

and Corporation CB does not register any 

class of securities with the SEC. Also, 

Employee EG performs services as an 

employee of Corporation CD instead of as an 

employee of Corporation CB. Corporation CD 

is a privately held corporation for its 2022 

taxable year. On October 1, 2023, the SEC 

declares effective Corporation CD’s Securities 

Act registration statement in connection with 

its initial public offering. Corporation CD is 

a publicly held corporation for its 2023 

taxable year. On January 1, 2028, Employee 

EG starts performing services as an employee 

of Corporation CA. Corporation CA is a 

publicly held corporation for its 2028 taxable 

year. 

(2) Conclusion (2022 taxable year). Because 

Corporation CD is a privately held 

corporation for its 2022 taxable year, it is not 

subject to section 162(m)(1) for this taxable 

year. 

(3) Conclusion (2023 taxable year). Because 

the exchange of the stock of Corporation CB 

for the stock of Corporation CA is a 

transaction described in section 355(a)(1), 

Corporations CB and CD are an affiliated 

group, and Corporation CD became a publicly 

held corporation for a taxable year ending 

prior to April 15, 2026, Corporation CA is a 

predecessor of Corporation CD within the 

meaning of paragraphs (c)(2)(ii)(D) and (G) of 

this section. Employee EG was a covered 

employee of Corporation CA for its 2022 

taxable year, and started performing services 

as an employee of Corporation CD following 

April 1, 2021, and before April 1, 2023. 

Therefore, Employee ED is a covered 

employee of Corporation CD for its 2023 

taxable year. 

(4) Conclusion (2028 taxable year). Because 

Employee EG served as the PFO of 

Corporation CA from January 1, 2022, to 

March 31, 2022, Employee EG was a covered 

employee of Corporation CA for its 2022 

taxable year. Because an individual who is a 

covered employee for a taxable year remains 

a covered employee for all subsequent 

taxable years (even after the individual has 

separated from service), Employee EG is a 

covered employee of Corporation CA for its 

2028 taxable year. 

(W) Example 23 (Predecessor of a publicly 

held corporation and a division)—(1) Facts. 

The facts are the same as in paragraph 

(c)(2)(vii)(V) of this section (Example 22), 

except that Employee EG starts performing 

services as an employee of Corporation CD 

on June 30, 2023, instead of on April 2, 2022, 

and never performs services for Corporation 

CA after June 30, 2023. Furthermore, on June 

30, 2023, Employee EH, a covered employee 

of Corporation CB for all of its taxable years, 

starts performing services for Corporation EF 

as an independent contractor advising its 

PEO but not serving as a PEO. 

(2) Conclusion (2023 taxable year). Because 

the exchange of the stock of Corporation CB 

for the stock of Corporation CA is a 

transaction described in section 355(a)(1) and 

Corporation CD became a publicly held 

corporation for a taxable year ending before 

April 15, 2026, Corporation CA is a 

predecessor of Corporation CD within the 

meaning of paragraphs (c)(2)(ii)(D) and (G) of 

this section. Even though Employee EG was 

a covered employee of Corporation CA for its 

2022 taxable year, because Employee EG 

started performing services as an employee of 

Corporation CD after April 1, 2023, Employee 

EG is not a covered employee of Corporation 

CD for its 2023 taxable year under paragraph 

(c)(2)(ii)(C) of this section. However, 

Employee EG may be a covered employee of 

Corporation CD by application of other rules 

in this paragraph (c)(2). Because Employee 

EH was a covered employee of Corporation 

CB for its 2022 taxable year, Employee EH is 

a covered employee of Corporation CD for its 

2023 taxable year. 

(X) Example 24 (Predecessor of a publicly 

held corporation and election under section 

338(h)(10))—(1) Facts. Corporation CE is the 

common parent of a group of corporations 

filing consolidated returns that includes 

Corporation CF as a member. Corporation CE 

wholly-owns Corporation CF, a publicly held 

corporation within the meaning of paragraph 

(c)(1)(i) of this section. On June 30, 2021, 

Corporation CG purchases Corporation CF 

from Corporation CE. Corporation CE and 

Corporation CG make a timely election under 

section 338(h)(10) with respect to the 

purchase of Corporation CF stock. For its 

taxable year ending December 31, 2021, 

Corporation CF continues to be a publicly 

held corporation within the meaning of 

paragraph (c)(1)(i) of this section. 

(2) Conclusion. As provided in paragraph 

(c)(2)(ii)(H) of this section, Corporation CF is 

treated as the same corporation after the 

section 338(h)(10) transaction as before the 

transaction for purposes for purposes of this 

paragraph (c)(2). Any covered employee of 

Corporation CF for its short taxable year 

ending June 30, 2021, is a covered employee 

of Corporation CF for its short taxable year 

ending on December 31, 2021, and 

subsequent taxable years. 

(Y) Example 25 (Disregarded entity)—(1) 

Facts. Corporation CH is a privately held 

corporation for its 2020 taxable year. Entity 

CI is a wholly-owned limited liability 

company and is disregarded as an entity 

separate from its owner, Corporation CH, 

under § 301.7701–2(c)(2)(i) of this chapter. 

As of December 31, 2020, Entity CI is 

required to file reports under section 15(d) of 

the Exchange Act. For the 2020 taxable year, 

Employee EI is the PEO and Employee EJ is 

the PFO of Corporation CH. Employees EK, 

EL, and EM, are the three most highly 

compensated executive officers of 

Corporation CH (other than Employees EI 

and EJ). Employee EN is the PFO of Entity 

CI and does not perform any policy making 

functions for Corporation CH. Entity CI has 

no other executive officers. 

(2) Conclusion. Because Entity CI is 

disregarded as an entity separate from its 

owner, Corporation CH, and is required to 

file reports under section 15(d) of the 

Exchange Act, Corporation CH is a publicly 

held corporation under paragraph (c)(1)(iii) 

of this section for its 2020 taxable year. Even 

though Employee EN is a PFO of Entity CI, 

Employee EN is not considered a PFO of 

Corporation CH under paragraph (c)(2)(iii) of 

this section. As PEO and PFO, Employees EI 

and EJ are covered employees of Corporation 

CH under paragraph (c)(2)(i) of this section. 

Additionally, as the three most highly 

compensated executive officers of 

Corporation CH (other than Employees EI 

and EJ), Employees EK, EL, and EM also are 

covered employees of Corporation CH under 

paragraph (c)(2)(i) of this section for 

Corporation CH’s 2020 taxable year. The 

result would be the same if Entity CI was not 

required to file reports under section 15(d) of 

the Exchange Act and Corporation CH was a 

publicly held corporation pursuant to 

paragraph (c)(1)(i) instead of paragraph 

(c)(1)(iii) of this section. 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86503 

(Z) Example 26 (Disregarded entity)—(1) 

Facts. The facts are the same as in paragraph 

(c)(2)(vii)(Y) of this section (Example 25), 

except that Employee EN performs a policy 

making function for Corporation CH. If 

Corporation CH were subject to the SEC 

executive compensation disclosure rules, 

then Employee EN would be treated as an 

executive officer of Corporation CH pursuant 

to 17 CFR 240.3b–7 for purposes of 

determining the three highest compensated 

executive officers for Corporation CH’s 2020 

taxable year. Employee EN is compensated 

more than Employee EK, but less than 

Employees EL and EM. 

(2) Conclusion. Because Entity CI is 

disregarded as an entity separate from its 

owner, Corporation CH, and is required to 

file reports under section 15(d) of the 

Exchange Act, Corporation CH is a publicly 

held corporation under paragraph (c)(1)(iii) 

of this section for its 2020 taxable year. As 

PEO and PFO, Employees EI and EJ are 

covered employees of Corporation CH under 

paragraph (c)(2)(i) of this section. Employee 

EN is one of the three highest compensated 

executive officers for Corporation CH’s 

taxable year. Because Employees EN, EL, and 

EM are the three most highly compensated 

executive officers of Corporation CH (other 

than Employees EI and EJ), they are covered 

employees of Corporation CH under 

paragraph (c)(2)(i) of this section for 

Corporation CH’s 2020 taxable year. The 

result would be the same if Entity CI was not 

required to file reports under section 15(d) of 

the Exchange Act and Corporation CH was a 

publicly held corporation pursuant to 

paragraph (c)(1)(i) instead of paragraph 

(c)(1)(iii) of this section. 

(AA) Example 27 (Individual as covered 

employee of a publicly held corporation that 

includes the affiliated group)—(1) Facts. 

Corporations CJ and CK are publicly held 

corporations for their 2020, 2021, and 2022 

taxable years. Corporation CK is a direct 

subsidiary of Corporation CJ. Employee EO is 

an employee, but not a covered employee (as 

defined in paragraph (c)(2)(i) of this section), 

of Corporation CJ for its 2020, 2021, and 2022 

taxable years. From April 1, 2020, to 

September 30, 2020, Employee EO serves as 

the PFO of Corporation CK. Employee EO 

does not perform any services for 

Corporation CK for its 2021 and 2022 taxable 

years, however, employee EO is a covered 

employee (as defined in paragraph (c)(2)(i) of 

this section) of Corporation CK for its 2020, 

2021, and 2022 taxable years. For the 2020 

taxable year, Employee EO receives 

compensation of $1,500,000 for services 

provided to Corporations CJ and CK. 

Employee EO receives $2,000,000 from 

Corporation CJ for performing services for 

Corporation CJ during each of its 2021 and 

2022 taxable years. On June 30, 2022, 

Corporation CK pays $500,000 to Employee 

EO from a nonqualified deferred 

compensation plan that complies with 

section 409A. 

(2) Conclusion (2020 taxable year). Because 

Employee EO is a covered employee of 

Corporation CK and because the affiliated 

group (comprised of Corporations CJ and CK) 

is a publicly held corporation, Employee EO 

is a covered employee of the publicly held 

corporation that is the affiliated group 

pursuant to paragraph (c)(2)(vi) of this 

section. Compensation paid by Corporations 

CJ and CK is aggregated for purposes of 

section 162(m)(1) and, as a result, $500,000 

of the aggregate compensation paid is 

nondeductible. The result would be the same 

if Corporation CJ was a privately held 

corporation for its 2020 taxable year. 

(3) Conclusion (2021 taxable year). Because 

Employee EO is a covered employee of 

Corporation CK pursuant to paragraph 

(c)(2)(i)(C) of this section and because the 

affiliated group (comprised of Corporations 

CJ and CK) is a publicly held corporation, 

Employee EO is a covered employee of the 

publicly held corporation that is the affiliated 

group pursuant to paragraph (c)(2)(vi) of this 

section. Compensation paid by Corporations 

CJ and CK is aggregated for purposes of 

section 162(m)(1) and, as a result, $1,000,000 

of the aggregate compensation paid is 

nondeductible. The result would be the same 

if Corporation CJ was a privately held 

corporation for its 2021 taxable year. 

(4) Conclusion (2022 taxable year). Because 

Employee EO is a covered employee of 

Corporation CK pursuant to paragraph 

(c)(2)(i)(C) of this section and because the 

affiliated group (comprised of Corporations 

CJ and CK) is a publicly held corporation, 

Employee EO is a covered employee of the 

publicly held corporation that is the affiliated 

group pursuant to paragraph (c)(2)(vi) of this 

section. Compensation paid by Corporations 

CJ and CK is aggregated for purposes of 

section 162(m)(1) and, as a result, $1,500,000 

of the aggregate compensation paid is 

nondeductible. The result would be the same 

if Corporation CJ was a privately held 

corporation for its 2022 taxable year. 

(BB) Example 28 (Individual as covered 

employee of a publicly held corporation that 

includes the affiliated group)—(1) Facts. 

Corporation CL is a publicly held corporation 

for its 2020 through 2023 taxable years. 

Corporations CM and CN are direct 

subsidiaries of Corporation CL and are 

privately held corporations for their 2020 

through 2022 taxable years. Employee EP 

serves as the PFO of Corporation CL from 

January 1, 2020 to December 31, 2020, when 

Employee EP terminates employment from 

Corporation CL. On January 1, 2021, 

Employee EP starts performing services as an 

employee of Corporation CM. In 2021, 

Employee EP receives compensation from 

Corporation CM in excess of $1,000,000. On 

April 1, 2022, Employee EP starts performing 

services as an employee of Corporation CN. 

On September 30, 2022, Employee EP 

terminates employment from Corporations 

CM and CN. In 2022, Employee EP receives 

compensation from Corporations CM and CN 

in excess of $1,000,000. For the 2021 and 

2022 taxable years, Employee EP does not 

serve as either the PEO or PFO of 

Corporations CM and CN, and is not one of 

the three highest compensated executive 

officers (other than the PEO or PFO) of 

Corporations CM and CN. On April 1, 2023, 

Corporation CL distributes all the shares of 

Corporation CM to its shareholders in a 

transaction described in section 355(a)(1). On 

April 1, 2023, the SEC declares effective 

Corporation CM’s Securities Act registration 

statement in connection with its initial 

public offering. Corporation CM is a publicly 

held corporation for its 2023 taxable year. On 

April 2, 2023, Employee EP starts performing 

services as an employee of Corporation CM 

but is not an executive officer of Corporation 

CM. 

(2) Conclusion (2021 taxable year). 

Employee EP is a covered employee of 

Corporation CL for the 2020 and subsequent 

taxable years. Because Employee EP is a 

covered employee of Corporation CL and 

because the affiliated group (comprised of 

Corporations CL, CM, and CN) is a publicly 

held corporation, Employee EP is a covered 

employee of the publicly held corporation 

that is the affiliated group pursuant to 

paragraph (c)(2)(vi) of this section for the 

2020 and subsequent taxable years. 

Therefore, Corporation CM’s deduction for 

compensation paid to Employee EP for the 

2021 taxable year is subject to section 

162(m)(1). The result would be the same if 

Corporation CM was a publicly held 

corporation as defined in paragraph (c)(1)(i) 

of this section. 

(3) Conclusion (2022 taxable year). Because 

Employee EP is a covered employee of 

Corporation CL and because the affiliated 

group (comprised of Corporations CL, CM, 

and CN) is a publicly held corporation, 

Employee EP is a covered employee of the 

publicly held corporation that is the affiliated 

group pursuant to paragraph (c)(2)(vi) of this 

section. Therefore, Corporation CM’s and 

CN’s deduction for compensation paid to 

Employee EP for the 2022 taxable year is 

subject to section 162(m)(1). Because the 

compensation paid by all affiliated group 

members is aggregated for purposes of 

section 162(m)(1), $1,000,000 of the aggregate 

compensation paid is nondeductible. 

Corporations CM and CN are each treated as 

paying a ratable portion of the nondeductible 

compensation. The result would be the same 

if either Corporation CM or CN (or both) was 

a publicly held corporation as defined in 

paragraph (c)(1)(i) of this section. 

(4) Conclusion (2023 taxable year). Because 

the distribution of the stock of Corporation 

CM is a transaction described in section 

355(a)(1), Corporation CL is a predecessor of 

Corporation CM within the meaning of 

paragraph (c)(2)(ii)(C) of this section. 

However, because Employee EP started 

performing services as an employee of 

Corporation CM on January 1, 2021, and the 

distribution of stock of Corporation CM did 

not occur until April 1, 2023, Employee EP 

is not a covered employee of Corporation CM 

for its 2023 taxable year. 

(3) Compensation—(i) In general. For 

purposes of the deduction limitation 

described in paragraph (b) of this 

section, compensation means the 

aggregate amount allowable as a 

deduction to the publicly held 

corporation under chapter 1 of the 

Internal Revenue Code for the taxable 

year (determined without regard to 

section 162(m)(1)) for remuneration for 

services performed by a covered 

employee in any capacity, whether or 

not the services were performed during 

86504 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

the taxable year. Compensation includes 

an amount that is includible in the 

income of, or paid to, a person other 

than the covered employee (including a 

beneficiary after the death of the 

covered employee) for services 

performed by the covered employee. 

(ii) Compensation paid by a 

partnership. For purposes of paragraph 

(c)(3)(i) of this section, compensation 

includes an amount equal to a publicly 

held corporation’s distributive share of 

a partnership’s deduction for 

compensation expense attributable to 

the remuneration paid by the 

partnership to a covered employee of 

the publicly held corporation for 

services performed by the covered 

employee, including a payment for 

services under section 707(a) or under 

section 707(c). 

(iii) Exceptions. Compensation does 

not include— 

(A) Remuneration covered in section 

3121(a)(5)(A) through (D) (concerning 

remuneration that is not treated as 

wages for purposes of the Federal 

Insurance Contributions Act); 

(B) Remuneration consisting of any 

benefit provided to or on behalf of an 

employee if, at the time the benefit is 

provided, it is reasonable to believe that 

the employee will be able to exclude it 

from gross income; or 

(C) Salary reduction contributions 

described in section 3121(v)(1). 

(iv) Examples. The following 

examples illustrate the provisions of 

this paragraph (c)(3). For each example, 

assume that the corporation is a 

calendar year taxpayer. 

(A) Example 1—(1) Facts. Corporation Z is 

a publicly held corporation for its 2020 

taxable year, during which Employee A 

serves as the PEO of Corporation Z and also 

serves on the board of directors of 

Corporation Z. In 2020, Corporation Z paid 

$1,200,000 to Employee A plus a $50,000 fee 

for serving as a director of Corporation Z. 

These amounts are otherwise deductible for 

Corporation Z’s 2020 taxable year. 

(2) Conclusion. The $1,200,000 paid to 

Employee A in 2020 plus the $50,000 

director’s fee paid to Employee A in 2020 are 

compensation within the meaning of this 

paragraph (c)(3). Therefore, Corporation Z’s 

$1,250,000 deduction for the 2020 taxable 

year is subject to the section 162(m)(1) limit. 

(B) Example 2—(1) Facts. Corporation X is 

a publicly held corporation for its 2020 and 

all subsequent taxable years. Employee B 

serves as the PEO of Corporation X for its 

2020 taxable year and is a participant in the 

Corporation X nonqualified retirement plan 

that meets the requirements of section 409A. 

The plan provides for the distribution of 

benefits over a three-year period beginning 

after a participant separates from service. 

Employee B terminates employment in 2021. 

In 2022, Employee B receives a $75,000 fee 

for services as a director and $1,500,000 as 

the first payment under the retirement plan. 

Employee B continues to serve on the board 

of directors until 2023 when Employee B dies 

before receiving the retirement benefit for 

2023 and before becoming entitled to any 

director’s fees for 2023. In 2023 and 2024, 

Corporation X pays the $1,500,000 annual 

retirement benefits to Person C, a beneficiary 

of Employee B. 

(2) Conclusion (2022 Taxable Year). In 

2022, Corporation X paid Employee B 

$1,575,000, including $1,500,000 under the 

retirement plan and $75,000 in director’s 

fees. The retirement benefit and the director’s 

fees are compensation within the meaning of 

this paragraph (c)(3). Therefore, Corporation 

X’s $1,575,000 deduction for the 2022 taxable 

year is subject to the section 162(m)(1) limit. 

(3) Conclusion (2023 and 2024 Taxable 

Years). In 2023 and 2024, Corporation X 

made payments to Person C of $1,500,000 

under the retirement plan. The retirement 

benefits are compensation within the 

meaning of this paragraph (c)(3). Therefore, 

Corporation X’s deduction for each annual 

payment of $1,500,000 for the 2023 and 2024 

taxable years is subject to the section 

162(m)(1) limit. 

(C) Example 3—(1) Facts. Corporation T is 

a publicly held corporation for its 2021 

taxable year. Corporation S is a privately held 

corporation for its 2021 taxable year. On 

January 2, 2021, Corporations S and T form 

a general partnership. Under the partnership 

agreement, Corporations S and T each have 

a 50% distributive share of the partnership’s 

income, gain, loss, and deductions. For the 

taxable year ending December 31, 2021, 

Employee D, a covered employee of 

Corporation T, performs services for the 

partnership, and the partnership pays 

$800,000 to Employee D for these services, 

the deduction of $400,000 of which is 

allocated to Corporation T. Corporation T’s 

$400,000 distributive share of the 

partnership’s deduction is reported 

separately to Corporation T pursuant to 

§ 1.702–1(a)(8)(iii). 

(2) Conclusion. Because Corporation T’s 

$400,000 distributive share of the 

partnership’s deduction is attributable to the 

compensation paid by the partnership for 

services performed by Employee D, a covered 

employee of Corporation T, the $400,000 is 

compensation within the meaning of this 

paragraph (c)(3) and Corporation T’s 

deduction for this expense for its 2021 

taxable year is subject to the section 

162(m)(1) limit. Corporation T’s $400,000 

allocation of the partnership’s deduction is 

aggregated with Corporation T’s deduction 

for compensation paid to Employee D, if any, 

in determining the amount allowable as a 

deduction to Corporation T for compensation 

paid to Employee D for Corporation T’s 2021 

taxable year. The result is the same whether 

Employee D performs services for the 

partnership as a common law employee, an 

independent contractor, or a partner, and 

whether the payment to Employee D is a 

payment under section 707(a) or section 

707(c). 

(4) Securities Act. The Securities Act 

means the Securities Act of 1933. 

(5) Exchange Act. The Exchange Act 

means the Securities Exchange Act of 

1934. 

(6) SEC. The SEC means the United 

States Securities and Exchange 

Commission. 

(7) Foreign Private Issuer. A foreign 

private issuer means an issuer as 

defined in 17 CFR 240.3b–4(c). 

(8) American Depositary Receipt 

(ADR). An American Depositary Receipt 

or ADR means a negotiable certificate 

that evidences ownership of a specified 

number (or fraction) of a foreign private 

issuer’s securities held by a depositary 

(typically, a U.S. bank). 

(9) Privately held corporation. A 

privately held corporation is a 

corporation that is not a publicly held 

corporation as defined in paragraph 

(c)(1) of this section (without regard to 

paragraph (c)(1)(ii) of this section). 

(d) Corporations that become publicly 

held—(1) In general. In the case of a 

corporation that was a privately held 

corporation and then becomes a 

publicly held corporation, the 

deduction limitation of paragraph (b) of 

this section applies to any 

compensation that is otherwise 

deductible for the taxable year ending 

on or after the date that the corporation 

becomes a publicly held corporation. A 

corporation is considered to become 

publicly held on the date that its 

registration statement becomes effective 

either under the Securities Act or the 

Exchange Act. The rules in this section 

apply to a partnership that becomes a 

publicly traded partnership that is a 

publicly held corporation within the 

meaning of paragraph (c)(1)(i) of this 

section. 

(2) Example. The following example 

illustrates the provision of this 

paragraph (d). 

(i) Facts. In 2021, Corporation E plans to 

issue debt securities in a public offering 

registered under the Securities Act. 

Corporation E is not required to file reports 

under section 15(d) of the Exchange Act with 

respect to any other class of securities and 

does not have another class of securities 

required to be registered under section 12 of 

the Exchange Act. On December 18, 2021, the 

SEC declares effective the Securities Act 

registration statement for Corporation E’s 

debt securities. 

(ii) Conclusion. Corporation E becomes a 

publicly held corporation on December 18, 

2021 because it is then required to file 

reports under section 15(d) of the Exchange 

Act. The deduction limitation of paragraph 

(b) of this section applies to any 

compensation that is otherwise deductible 

for Corporation E’s taxable year ending on or 

after December 18, 2021. 

(e) Coordination with disallowed 

excess parachute payments under 

section 280G. The $1,000,000 limitation 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86505 

in paragraph (b) of this section is 

reduced (but not below zero) by the 

amount (if any) that would have been 

included in the compensation of the 

covered employee for the taxable year 

but for being disallowed by reason of 

section 280G. For example, assume that 

during a taxable year a corporation pays 

$1,500,000 to a covered employee, of 

which $600,000 is an excess parachute 

payment, as defined in section 

280G(b)(1), and a deduction for that 

excess parachute payment is disallowed 

by reason of section 280G(a). Because 

the $1,000,000 limitation in paragraph 

(b) of this section is reduced by the 

amount of the excess parachute 

payment, the corporation may deduct 

$400,000 ($1,000,000¥$600,000), and 

$500,000 of the otherwise deductible 

amount is nondeductible by reason of 

section 162(m)(1). Thus $1,100,000 (of 

the total $1,500,000 payment) is nondeductible, reflecting the disallowance 

related to the excess parachute payment 

under section 280G and the application 

of section 162(m)(1). 

(f) Coordination with excise tax on 

specified stock compensation. The 

$1,000,000 limitation in paragraph (b) of 

this section is reduced (but not below 

zero) by the amount (if any) of any 

payment (with respect to such 

employee) of the tax imposed by section 

4985 directly or indirectly by the 

expatriated corporation (as defined in 

section 4985(e)(2)) or by any member of 

the expanded affiliated group (as 

defined in section 4985(e)(4)) that 

includes such corporation. 

(g) Transition rules—(1) Amount of 

compensation payable under a written 

binding contract that was in effect on 

November 2, 2017—(i) General rule. 

This section does not apply to the 

deduction for compensation payable 

under a written binding contract that 

was in effect on November 2, 2017, and 

that is not modified in any material 

respect on or after that date (a 

grandfathered amount). Instead, section 

162(m), as in effect prior to its 

amendment by Public Law 115–97, 

applies to limit the deduction for that 

compensation. Because § 1.162–27 

implemented section 162(m) as in effect 

prior to its amendment by Public Law 

115–97, the rules of § 1.162–27 

determine the applicability of the 

deduction limitation under section 

162(m) with respect to the payment of 

a grandfathered amount (including the 

potential application of the separate 

grandfathering rules contained in 

§ 1.162–27(h)). Compensation is a 

grandfathered amount only to the extent 

that as of November 2, 2017, the 

corporation was and remains obligated 

under applicable law (for example, state 

contract law) to pay the compensation 

under the contract if the employee 

performs services or satisfies the 

applicable vesting conditions. This 

section applies to the deduction for any 

amount of compensation that exceeds 

the grandfathered amount. If a 

grandfathered amount and nongrandfathered amount are otherwise 

deductible for the same taxable year 

and, under the rules of § 1.162–27, the 

deduction of some or all of the 

grandfathered amount may be limited 

(for example, the grandfathered amount 

does not satisfy the requirements of 

§ 1.162–27(e)(2) through (5) as qualified 

performance-based compensation), then 

the grandfathered amount is aggregated 

with the non-grandfathered amount to 

determine the deduction disallowance 

for the taxable year under section 

162(m)(1) (so that the deduction limit 

applies to the excess of the aggregated 

amount over $1 million). 

(ii) Contracts that are terminable or 

cancelable. If a written binding contract 

is renewed after November 2, 2017, this 

section (and not § 1.162–27) applies to 

any payments made after the renewal. A 

written binding contract that is 

terminable or cancelable by the 

corporation without the employee’s 

consent after November 2, 2017, is 

treated as renewed as of the earliest date 

that any such termination or 

cancellation, if made, would be 

effective. Thus, for example, if the terms 

of a contract provide that it will be 

automatically renewed or extended as of 

a certain date unless either the 

corporation or the employee provides 

notice of termination of the contract at 

least 30 days before that date, the 

contract is treated as renewed as of the 

date that termination would be effective 

if that notice were given. Similarly, for 

example, if the terms of a contract 

provide that the contract will be 

terminated or canceled as of a certain 

date unless either the corporation or the 

employee elects to renew within 30 

days of that date, the contract is treated 

as renewed by the corporation as of that 

date (unless the contract is renewed 

before that date, in which case, it is 

treated as renewed on the earlier date). 

Alternatively, if the corporation will 

remain legally obligated by the terms of 

a contract beyond a certain date at the 

sole discretion of the employee, the 

contract will not be treated as renewed 

as of that date if the employee exercises 

the discretion to keep the corporation 

bound to the contract. A contract is not 

treated as terminable or cancelable if it 

can be terminated or canceled only by 

terminating the employment 

relationship of the employee. A contract 

is not treated as renewed if upon 

termination or cancellation of the 

contract the employment relationship 

continues but would no longer be 

covered by the contract. However, if the 

employment continues after the 

termination or cancellation, payments 

with respect to the post-termination or 

post-cancellation employment are not 

made pursuant to the contract (and, 

therefore, are not grandfathered 

amounts). 

(iii) Compensation payable under a 

plan or arrangement. If a compensation 

plan or arrangement is a written binding 

contract in effect on November 2, 2017, 

the deduction for the amount that the 

corporation is obligated to pay to an 

employee pursuant to the plan or 

arrangement is not subject to this 

section solely because the employee was 

not eligible to participate in the plan or 

arrangement as of November 2, 2017, 

provided the employee was employed 

on November 2, 2017, by the 

corporation that maintained the plan or 

arrangement, or the employee had the 

right to participate in the plan or 

arrangement under a written binding 

contract as of that date. 

(iv) Compensation subject to recovery 

by corporation. If the corporation is 

obligated or has discretion to recover 

compensation paid in a taxable year 

only upon the future occurrence of a 

condition that is objectively outside of 

the corporation’s control, then the 

corporation’s right to recovery is 

disregarded for purposes of determining 

the grandfathered amount for the 

taxable year. Whether or not the 

corporation exercises its discretion to 

recover any compensation does not 

affect the amount of compensation that 

the corporation remains obligated to pay 

under applicable law. 

(v) Compensation payable from an 

account balance plan—(A) In general. 

Except as otherwise provided in this 

paragraph (g), the grandfathered amount 

of payments from an account balance 

plan (as defined in § 1.409A– 

1(c)(2)(i)(A)) that is a written binding 

contract in effect as of November 2, 

2017, is the amount that the corporation 

is obligated to pay pursuant to the terms 

of the account balance plan in effect as 

of that date, as determined under 

applicable law. If under the terms of the 

plan, the corporation is obligated to pay 

the employee the account balance that 

is credited with earnings and losses and 

has no right to terminate or materially 

amend the plan, then the grandfathered 

amount would be the account balance as 

of November 2, 2017, plus any 

additional contributions and earnings 

and losses that the corporation is 

obligated to credit to the account 

86506 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

balance in accordance with the terms of 

the plan as of November 2, 2017, 

through the date of payment. 

(B) Account balance plan providing 

right to terminate. If under the terms of 

the account balance plan in effect as of 

November 2, 2017, the corporation may 

terminate the contract and distribute the 

account balance to the employee, then 

the grandfathered amount would be the 

account balance determined as if the 

corporation had terminated the plan on 

November 2, 2017 or, if later, the 

earliest possible date the plan could be 

terminated in accordance with the terms 

of the plan (termination date). Whether 

additional contributions and earnings 

and losses credited to the account 

balance after the termination date, 

through the earliest possible date the 

account balance could have been 

distributed to the employee in 

accordance with the terms of the plan, 

are grandfathered depends on whether 

the terms of the plan require the 

corporation to make those contributions 

or credit those earnings and losses 

through that distribution date. 

Notwithstanding the foregoing, the 

corporation may treat the account 

balance as of the termination date as the 

grandfathered amount regardless of 

when the amount is paid and regardless 

of whether it has been credited with 

additional contributions or earnings or 

losses prior to payment. 

(C) Account balance plan providing 

right to discontinue future 

contributions. If under the terms of the 

account balance plan in effect as of 

November 2, 2017, the corporation has 

no right to terminate the plan, but may 

discontinue future contributions and 

distribute the account balance in 

accordance with the terms of the plan, 

then the grandfathered amount would 

be the account balance determined as if 

the corporation had exercised the right 

to discontinue contributions on 

November 2, 2017, or, if later, the 

earliest permissible date the corporation 

could exercise that right in accordance 

with the terms of the plan (the freeze 

date). If, after the freeze date, the plan 

requires the crediting of earnings and 

losses on the account balance through 

the payment date, then the earnings and 

losses credited to the grandfathered 

account balance would also be 

grandfathered. Notwithstanding the 

foregoing, the corporation may treat the 

account balance as of the freeze date as 

the grandfathered amount regardless of 

when the amount is paid and regardless 

of whether it has been credited with 

earnings or losses prior to payment. 

(vi) Compensation payable from a 

nonaccount balance plan—(A) In 

general. Except as otherwise provided 

in this paragraph (g), the grandfathered 

amount of payments from a nonaccount 

balance plan (as defined in § 1.409A– 

1(c)(2)(i)(C)) that is a written binding 

contract in effect as of November 2, 

2017, is the amount that the corporation 

is obligated to pay pursuant to the terms 

of the nonaccount balance plan in effect 

as of that date, as determined under 

applicable law. If under the terms of the 

plan, the corporation is obligated to pay 

the employee the benefit under the plan 

and has no right to terminate or 

materially amend the plan, then the 

grandfathered amount would be the 

benefit under the plan as of November 

2, 2017, plus any additional accrued 

benefits that the corporation is obligated 

to pay in accordance with the terms of 

the plan as of November 2, 2017, 

through the date of payment. 

(B) Nonaccount balance plan 

providing right to terminate. If under the 

terms of the nonaccount balance plan in 

effect as of November 2, 2017, the 

corporation may terminate the plan and 

distribute the total benefit to the 

employee, then the grandfathered 

amount would be the present value of 

the total benefit (lump sum value) 

determined as if the corporation had 

terminated the plan on November 2, 

2017 or, if later, the earliest possible 

date the plan could be terminated in 

accordance with the terms of the plan 

(termination date). Whether an increase 

or decrease in the lump sum value after 

the termination date, through the 

earliest possible date the lump sum 

value could have been distributed to the 

employee, is grandfathered depends on 

whether the terms of the plan require 

the corporation to increase or decrease 

the lump sum value through the 

distribution date. For example, if the 

plan did not require the corporation to 

make further service or compensation 

credits, then any increase in the lump 

sum value for these credits after the 

termination date is not grandfathered. 

Notwithstanding the foregoing, the 

corporation may treat the lump sum 

value as of the termination date as the 

grandfathered amount regardless of 

when the amount is paid and regardless 

of whether it has increased or decreased 

prior to payment. For purposes of this 

paragraph (g)(1)(vi)(B), the lump sum 

value is determined based on the 

actuarial methods and assumptions 

provided in the plan in effect on 

November 2, 2017, if the assumptions 

are reasonable, or any reasonable 

actuarial assumptions if the plan does 

not provide for applicable actuarial 

methods and assumptions or the terms 

of the plan were not reasonable. The 

determination of the lump sum value 

may not take into account the likelihood 

that payments will not be made (or will 

be reduced) because of the unfunded 

status of the plan, the risk that the 

employer, the trustee, or another party 

will be unwilling or unable to pay, the 

possibility of future plan amendments, 

the possibility of a future change in the 

law, or similar risks or contingencies. If 

the benefit provided under the plan in 

effect on November 2, 2017, is paid as 

a life annuity or other form of benefit 

that is not a single lump sum payment, 

the application of the grandfathered 

amount to the payments of the benefit 

is determined in accordance with the 

ordering rule of paragraph (g)(1)(viii) of 

this section. 

(C) Nonaccount balance plan 

providing right to discontinue future 

accrual of benefits. If under the terms of 

the nonaccount balance plan in effect as 

of November 2, 2017, the corporation 

has no right to terminate the plan, but 

may discontinue future accruals of 

benefits and distribute the benefit in 

accordance with the terms of the plan, 

then the grandfathered amount would 

be the lump sum value of the total 

benefit (lump sum value) determined as 

if the corporation had exercised the 

right to discontinue the future accrual of 

benefits on November 2, 2017, or, if 

later, the earliest permissible date the 

corporation could exercise such right in 

accordance with the terms of the plan 

(the freeze date). If, after the freeze date, 

the plan required the corporation to 

increase or decrease the lump sum value 

through the payment date, then any 

increase to the grandfathered lump sum 

would also be grandfathered. 

Notwithstanding the foregoing, the 

corporation may treat the lump sum 

value determined as of the freeze date 

as the grandfathered amount regardless 

of when the amount is paid and 

regardless of whether it has been 

increased or decreased prior to 

payment. For purposes of this paragraph 

(g)(1)(vi)(C), the lump sum value is 

determined based on the actuarial 

methods and assumptions provided in 

the plan in effect on November 2, 2017, 

if the assumptions are reasonable, or 

any reasonable actuarial assumptions if 

the plan does not provide for applicable 

actuarial methods and assumptions or 

the terms of the plan were not 

reasonable. The determination of the 

lump sum value may not take into 

account the likelihood that payments 

will not be made (or will be reduced) 

because of the unfunded status of the 

plan, the risk that the employer, the 

trustee, or another party will be 

unwilling or unable to pay, the 

possibility of future plan amendments, 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86507 

the possibility of a future change in the 

law, or similar risks or contingencies. If 

the benefit paid under the plan in effect 

on November 2, 2017, is paid as a life 

annuity or other form of benefit that is 

not a single lump sum payment, the 

application of the grandfathered amount 

to the payments of the benefit is 

determined in accordance with the 

ordering rule of paragraph (g)(1)(viii) of 

this section. 

(vii) Grandfathered amount limited to 

a particular plan or arrangement. The 

grandfathered amount under a plan or 

arrangement applies solely to the 

amounts paid under that plan or 

arrangement, so that regardless of 

whether all of the grandfathered amount 

is paid to the participant (for example, 

regardless of whether some or all of the 

grandfathered amount under the plan is 

forfeited under the terms of the plan), 

no portion of that grandfathered amount 

may be treated as a grandfathered 

amount under any other separate plan 

or arrangement in which the employee 

is a participant. 

(viii) Ordering rule. If a portion of the 

amount payable under a plan or 

arrangement is a grandfathered amount 

and a portion is subject to this section, 

and payment under the plan or 

arrangement is made in a series of 

payments (including payments as a life 

annuity), the grandfathered amount is 

allocated to the first payment of an 

amount under the plan or arrangement 

that is otherwise deductible. If the 

grandfathered amount exceeds the 

initial payment, the excess is allocated 

to the next payment of an amount under 

the plan or arrangement that is 

otherwise deductible, and this process 

is repeated until the entire 

grandfathered amount has been paid. 

Notwithstanding the foregoing, for 

amounts otherwise deductible for 

taxable years ending before December 

20, 2019, the grandfathered amount may 

be allocated to each payment on a pro 

rata basis or to the last otherwise 

deductible payment. If one of these two 

methods was used for taxable years 

ending before December 20, 2019, then, 

for taxable years ending on or after 

December 20, 2019, the method must be 

changed to allocate any remaining 

grandfathered amount to the first 

payment for the remaining payments 

(treating as the first payment the first 

otherwise deductible amount for taxable 

years ending on or after December 20, 

2019). 

(2) Material modifications. (i) If a 

written binding contract is modified on 

or after November 2, 2017, this section 

(and not § 1.162–27) applies to any 

payments made after the modification. 

A material modification occurs when 

the contract is amended to increase the 

amount of compensation payable to the 

employee. If a written binding contract 

is materially modified, it is treated as a 

new contract entered into as of the date 

of the material modification. Thus, 

amounts received by an employee under 

the contract before a material 

modification are not affected, but 

amounts received subsequent to the 

material modification are treated as paid 

pursuant to a new contract, rather than 

as paid pursuant to a written binding 

contract in effect on November 2, 2017. 

(ii) A modification of the contract that 

accelerates the payment of 

compensation is a material modification 

unless the amount of compensation paid 

is discounted to reasonably reflect the 

time value of money. If the contract is 

modified to defer the payment of 

compensation, any compensation paid 

or to be paid that is in excess of the 

amount that was originally payable to 

the employee under the contract will 

not be treated as resulting in a material 

modification if the additional amount is 

based on applying to the amount 

originally payable either a reasonable 

rate of interest or the rate of return on 

a predetermined actual investment as 

defined in § 31.3121(v)(2)–1(d)(2)(i)(B) 

of this chapter (whether or not assets 

associated with the amount originally 

owed are actually invested therein) such 

that the amount payable by the 

employer at the later date will be based 

on the reasonable rate of interest or the 

actual rate of return on the 

predetermined actual investment 

(including any decrease, as well as any 

increase, in the value of the investment). 

For an arrangement under which the 

grandfathered amounts are subject to 

increase or decrease based on the 

performance of a predetermined actual 

investment, the addition or substitution 

of a predetermined actual investment or 

reasonable interest rate as an investment 

alternative for amounts deferred is not 

treated as a material modification. 

However, a modification of a contract to 

defer payment of a grandfathered 

amount that results in payment of 

additional amounts (such as additional 

earnings) does not necessarily mean that 

the additional amounts are 

grandfathered amounts; for rules 

concerning the determination of 

grandfathered amounts see paragraph (g) 

of this section. Notwithstanding the 

foregoing, if compensation attributable 

to an option to purchase stock (other 

than an incentive stock option described 

in section 422 or a stock option granted 

under an employee stock purchase plan 

described in section 423) or a stock 

appreciation right is grandfathered, an 

extension of the exercise period that is 

extended in compliance with § 1.409A– 

1(b)(5)(v)(C)(1) will not be treated as a 

material modification and the amount of 

compensation paid upon the exercise of 

the stock option or stock appreciation 

right will be grandfathered. 

(iii) The adoption of a supplemental 

contract or agreement that provides for 

increased compensation, or the payment 

of additional compensation, is a 

material modification of a written 

binding contract if the facts and 

circumstances demonstrate that the 

additional compensation to be paid is 

based on substantially the same 

elements or conditions as the 

compensation that is otherwise paid 

pursuant to the written binding 

contract. However, a material 

modification of a written binding 

contract does not include a 

supplemental payment that is equal to 

or less than a reasonable cost-of-living 

increase over the payment made in the 

preceding year under that written 

binding contract. In addition, the 

failure, in whole or in part, to exercise 

negative discretion under a contract 

does not result in the material 

modification of that contract (although 

the existence of the negative discretion 

under the contract may impact the 

initial determination of whether 

amounts under the contract are 

grandfathered amounts). 

(iv) If a grandfathered amount is 

subject to a substantial risk of forfeiture 

(as defined in § 1.409A–1(d)), then a 

modification of the contract that results 

in a lapse of the substantial risk of 

forfeiture is not considered a material 

modification. Furthermore, for 

compensation received pursuant to the 

substantial vesting of restricted 

property, or the exercise of a stock 

option or stock appreciation right that 

does not provide for a deferral of 

compensation (as defined in § 1.409A– 

1(b)(5)(i) and (ii)), a modification of a 

written binding contract in effect on 

November 2, 2017, that results in a lapse 

of the substantial risk of forfeiture (as 

defined § 1.83–3(c)) is not considered a 

material modification. 

(3) Examples. The following examples 

illustrate the provisions of this 

paragraph (g). For each example, assume 

for all relevant years that the 

corporation is a publicly held 

corporation within the meaning of 

paragraph (c)(1) of this section and is a 

calendar year taxpayer, and is not a 

‘‘smaller reporting company’’ or 

‘‘emerging growth company’’ for 

purposes of reporting under the 

Exchange Act. Furthermore, assume 

that, for each example, if any 

arrangement is subject to section 409A, 

86508 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

then the arrangement complies with 

section 409A, and that no arrangement 

is subject to section 457A. 

(i) Example 1 (Multi-year agreement for 

annual salary)—(A) Facts. On October 2, 

2017, Corporation X executed a three-year 

employment agreement with Employee A for 

an annual salary of $2,000,000 beginning on 

January 1, 2018. Employee A serves as the 

PFO of Corporation X for the 2017 through 

2020 taxable years. The agreement provides 

for automatic extensions after the three-year 

term for additional one-year periods, unless 

the corporation exercises its option to 

terminate the agreement within 30 days 

before the end of the three-year term or, 

thereafter, within 30 days before each 

anniversary date. Termination of the 

employment agreement does not require the 

termination of Employee A’s employment 

with Corporation X. Under applicable law, 

the agreement for annual salary constitutes a 

written binding contract in effect on 

November 2, 2017, to pay $2,000,000 of 

annual salary to Employee A for three years 

through December 31, 2020. 

(B) Conclusion. If this section applies, 

Employee A is a covered employee for 

Corporation X’s 2018 through 2020 taxable 

years. Because the October 2, 2017, 

employment agreement is a written binding 

contract to pay Employee A an annual salary 

of $2,000,000, this section does not apply 

(and § 1.162–27 does apply) to the deduction 

for Employee A’s annual salary. Pursuant to 

§ 1.162–27(c)(2), Employee A is not a covered 

employee for Corporation X’s 2018 through 

2020 taxable years. The deduction for 

Employee A’s annual salary for the 2018 

through 2020 taxable years is not subject to 

section 162(m)(1). However, the employment 

agreement is treated as renewed on January 

1, 2021, unless it is previously terminated, 

and the deduction limit of this § 1.162–33 

(and not § 1.162–27) will apply to the 

deduction for any payments made under the 

employment agreement on or after that date. 

(ii) Example 2 (Agreement for severance 

based on annual salary and discretionary 

bonus)—(A) Facts. The facts are the same as 

in paragraph (g)(3)(i) of this section (Example 

1), except that the employment agreement 

also requires Corporation X to pay Employee 

A severance if Corporation X terminates the 

employment relationship without cause 

during the term of the agreement. The 

amount of severance is equal to the sum of 

two times Employee A’s annual salary plus 

two times Employee A’s discretionary bonus 

(if any) paid within 24 months preceding 

termination. Under applicable law, the 

agreement for severance constitutes a written 

binding contract in effect on November 2, 

2017, to pay $4,000,000 (two times Employee 

A’s $2,000,000 annual salary) if Corporation 

X terminates Employee A’s employment 

without cause during the term of the 

agreement. 

(B) Conclusion. If this section applies, 

Employee A is a covered employee for 

Corporation X’s 2018 through 2020 taxable 

years. Because the October 2, 2017, 

employment agreement is a written binding 

contract to pay Employee A $4,000,000 if 

Employee A is terminated without cause 

prior to December 31, 2020, this section does 

not apply (and § 1.162–27 does apply) to the 

deduction for $4,000,000 of Employee A’s 

severance. Pursuant to § 1.162–27(c)(2), 

Employee A is not a covered employee for 

Corporation X’s 2018 through 2020 taxable 

years. The deduction for $4,000,000 of 

Employee A’s severance is not subject to 

section 162(m)(1). However, the employment 

agreement is treated as renewed on January 

1, 2021, unless it is previously terminated, 

and this § 1.162–33 (and not § 1.162–27) will 

apply to the deduction for any payments 

made under the employment agreement, 

including for severance, on or after that date. 

(iii) Example 3 (Effect of discretionary 

bonus payment on agreement for severance 

based on annual salary and discretionary 

bonus)—(A) Facts. The facts are the same as 

in paragraph (g)(3)(ii) of this section 

(Example 2), except that, on October 31, 

2017, Corporation X paid Employee A a 

discretionary bonus of $100,000, on May 14, 

2018, Corporation X paid Employee A a 

discretionary bonus of $600,000, and on 

April 30, 2019, terminated Employee A’s 

employment without cause. Pursuant to the 

terms of the employment agreement for 

severance, on May 1, 2019, Corporation X 

paid to Employee A a $5,400,000 severance 

payment (the sum of two times the 

$2,000,000 annual salary, two times the 

$100,000 discretionary bonus, and two times 

the $600,000 discretionary bonus). 

(B) Conclusion. If this section applies, 

Employee A is a covered employee for 

Corporation X’s 2019 taxable year. Because 

the October 2, 2017, agreement is a written 

binding contract to pay Employee A 

$4,000,000 if Employee A is terminated 

without cause prior to December 31, 2020, 

and $200,000 if Corporation X terminates 

Employee A’s employment without cause 

prior to October 31, 2019, this section does 

not apply (and § 1.162–27 does apply) to the 

deduction for $4,200,000 of Employee A’s 

severance payment. The deduction for 

$4,200,000 of Employee A’s severance 

payment is not subject to section 162(m)(1). 

Because the October 2, 2017, agreement is 

not a written binding contract to pay 

Employee A’s $600,000 discretionary bonus 

(since, as of November 2, 2017, Corporation 

X was not obligated under applicable law to 

make the bonus payment), the deduction for 

$1,200,000 of the $5,400,000 payment is 

subject to this section (and not § 1.162–27). 

(iv) Example 4 (Effect of adjustment to 

annual salary on severance)—(A) Facts. The 

facts are the same as in paragraph (g)(3)(ii) of 

this section (Example 2), except that the 

employment agreement provides for 

discretionary increases in salary and, on 

January 1, 2019, Corporation X increased 

Employee A’s annual salary from $2,000,000 

to $2,050,000, an increase that was less than 

a reasonable, cost-of-living adjustment. 

(B) Conclusion (Annual salary). If this 

section applies, Employee A is a covered 

employee for Corporation X’s 2018 through 

2020 taxable years. Because the October 2, 

2017, agreement is a written binding contract 

to pay Employee A an annual salary of 

$2,000,000, this section does not apply (and 

§ 1.162–27 does apply) to the deduction for 

Employee A’s annual salary unless the 

change in the salary is a material 

modification. Even though the $50,000 

increase is paid on the basis of substantially 

the same elements or conditions as the salary 

that is otherwise paid under the contract, the 

$50,000 increase does not constitute a 

material modification because it is less than 

or equal to a reasonable cost-of-living 

increase to the $2,000,000 annual salary 

Corporation X is required to pay under 

applicable law as of November 2, 2017. 

However, the deduction for the $50,000 

increase is subject to this section (and not 

§ 1.162–27). 

(C) Conclusion (Severance payment). 

Because the October 2, 2017, agreement is a 

written binding contract to pay Employee A 

severance of $4,000,000, this section would 

not apply (and § 1.162–27 would apply) to 

the deduction for this amount of severance 

unless the change in the employment 

agreement is a material modification. Even 

though the $100,000 increase in severance 

(two times the $50,000 increase in salary) 

would be paid on the basis of substantially 

the same elements or conditions as the 

severance that would otherwise be paid 

pursuant to the written binding contract, the 

$50,000 increase in salary on which it is 

based does not constitute a material 

modification of the written binding contract 

since it is less than or equal to a reasonable 

cost-of-living increase. However, the 

deduction for the $100,000 increase in 

severance is subject to this section (and not 

§ 1.162–27). 

(v) Example 5 (Effect of adjustment to 

annual salary on severance)—(A) Facts. The 

facts are the same as in paragraph (g)(3)(iv) 

of this section (Example 4), except that, on 

January 1, 2019, Corporation X increased 

Employee A’s annual salary from $2,000,000 

to $3,000,000, an increase that exceeds a 

reasonable, cost-of-living adjustment. 

(B) Conclusion (Annual salary). If this 

section applies, Employee A is a covered 

employee for Corporation X’s 2018 through 

2020 taxable years. Because the October 2, 

2017, agreement is a written binding contract 

to pay Employee A an annual salary of 

$2,000,000, this section does not apply (and 

§ 1.162–27 does apply) to the deduction for 

Employee A’s annual salary unless the 

change in the employment agreement is a 

material modification. The $1,000,000 

increase is a material modification of the 

written binding contract because the 

additional compensation is paid on the basis 

of substantially the same elements or 

conditions as the compensation that is 

otherwise paid pursuant to the written 

binding contract, and it exceeds a reasonable, 

annual cost-of-living increase from the 

$2,000,000 annual salary for 2018 that 

Corporation X is required to pay under 

applicable law as of November 2, 2017. 

Because the written binding contract is 

materially modified as of January 1, 2019, the 

deduction for all annual salary paid to 

Employee A in 2019 and thereafter is subject 

to this section (and not § 1.162–27). 

(C) Conclusion (Severance payment). 

Because the October 2, 2017, agreement is a 

written binding contract to pay Employee A 

severance of $4,000,000, this section would 

not apply (and § 1.162–27 would apply) to 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86509 

the deduction for this amount of severance 

unless the change in the employment 

agreement is a material modification. The 

additional $2,000,000 severance payment 

(two times the $1,000,000 increase in annual 

salary) constitutes a material modification of 

the written binding contract because the 

$1,000,000 increase in salary on which it is 

based constitutes a material modification of 

the written binding contract since it exceeds 

a reasonable cost-of-living increase from the 

$2,000,000 annual salary for 2018 that 

Corporation X is required to pay under 

applicable law as of November 2, 2017. 

Because the agreement is materially modified 

as of January 1, 2019, the deduction for any 

amount of severance paid to Employee A 

under the agreement is subject to this section 

(and not § 1.162–27). 

(vi) Example 6 (Elective deferral of an 

amount that corporation was obligated to pay 

under applicable law)—(A) Facts. The facts 

are the same as in paragraph (g)(3)(i) of this 

section (Example 1), except that, on 

December 15, 2018, Employee A makes a 

deferral election under a nonqualified 

deferred compensation (NQDC) plan to defer 

$200,000 of annual salary earned and payable 

in 2019. Pursuant to the NQDC plan, the 

$200,000, including earnings, is to be paid in 

a lump sum on the date six months following 

Employee A’s separation from service. The 

earnings are based on the Standard & Poor’s 

500 Index. Under applicable law, pursuant to 

the written binding contract in effect on 

November 2, 2017, (and absent the deferral 

agreement) Corporation X would have been 

obligated to pay $200,000 to Employee A in 

2019, but is not obligated to pay any earnings 

on the $200,000 deferred pursuant to the 

deferral election Employee A makes on 

December 15, 2018. Employee A separates 

from service on December 15, 2020. On June 

15, 2021, Corporation X pays $250,000 (the 

deferred $200,000 of salary plus $50,000 in 

earnings). 

(B) Conclusion. If this section applies, 

Employee A is a covered employee for 

Corporation X’s 2021 taxable year. Employee 

A’s NQDC plan is not a material modification 

of the written binding contract in effect on 

November 2, 2017, because the earnings to be 

paid under the NQDC plan are based on a 

predetermined actual investment (as defined 

in § 31.3121(v)(2)–1(d)(2)(i)(B) of this 

chapter). The deduction for the $50,000 of 

earnings to be paid that exceed the amount 

originally payable to Employee A under the 

written binding contract ($200,000 of salary) 

are subject to this section (and not § 1.162– 

27). This section does not apply (and 

§ 1.162–27 does apply) to the deduction for 

the $200,000 portion of the $250,000 

payment that Corporation X was obligated 

under applicable law to pay as of November 

2, 2017. Pursuant to § 1.162–27(c)(2), 

Employee A is not a covered employee for 

Corporation X’s 2021 taxable year; thus, the 

deduction for the $200,000 payment is not 

subject to section 162(m)(1). 

(vii) Example 7 (Compensation subject to 

discretionary recovery by corporation)—(A) 

Facts. Employee B serves as the PFO of 

Corporation Z for its 2017 through 2019 

taxable years. On October 2, 2017, 

Corporation Z executed a bonus agreement 

with Employee B that requires Corporation Z 

to pay Employee B a performance bonus of 

$3,000,000 on May 1, 2019, if Corporation Z’s 

net earnings increase by at least 10% for its 

2018 taxable year based on the financial 

statements filed with the SEC. The agreement 

does not permit Corporation Z to reduce the 

amount of the bonus payment for any reason 

if the Corporation Z attains the net earnings 

performance target. However, the agreement 

provides that, if the bonus is paid and 

subsequently the financial statements are 

restated to show that the net earnings did not 

increase by at least 10%, then Corporation Z 

may, in its discretion, recover the $3,000,000 

from Employee B within six months of the 

restatement. Under applicable law, the 

agreement for the performance bonus 

constitutes a written binding contract in 

effect on November 2, 2017, to pay 

$3,000,000 to Employee B if Corporation Z’s 

net earnings increase by at least 10% for its 

2018 taxable year based on the financial 

statements filed with the SEC. On May 1, 

2019, Corporation Z pays $3,000,000 to 

Employee B because its net earnings 

increased by at least 10% of its 2018 taxable 

year. 

(B) Conclusion. If this section applies, 

Employee B is a covered employee for 

Corporation Z’s 2019 taxable year. Because 

the October 2, 2017, agreement is a written 

binding contract to pay Employee B 

$3,000,000 if the applicable conditions are 

met, this section does not apply (and § 1.162– 

27 does apply) to the deduction for the 

$3,000,000 regardless of whether Corporation 

Z’s financial statements are restated to show 

that its net earnings did not increase by at 

least 10%, and regardless of whether 

Corporation Z exercises its discretion to 

recover the bonus if Corporation Z’s financial 

statements are restated to show that its net 

earnings did not increase by at least 10%. 

(viii) Example 8 (Performance bonus plan 

with negative discretion)—(A) Facts. 

Employee E serves as the PEO of Corporation 

V for the 2017 and 2018 taxable years. On 

February 1, 2017, Corporation V establishes 

a bonus plan, under which Employee E will 

receive a cash bonus of $1,500,000 if a 

specified performance goal is satisfied. The 

compensation committee retains the right, if 

the performance goal is met, to reduce the 

bonus payment to no less than $400,000 if, 

in its judgment, other subjective factors 

warrant a reduction. On November 2, 2017, 

under applicable law, which takes into 

account the employer’s ability to exercise 

negative discretion, the bonus plan 

established on February 1, 2017, constitutes 

a written binding contract to pay $400,000. 

On March 1, 2018, the compensation 

committee certifies that the performance goal 

was satisfied, but exercises its discretion to 

reduce the award to $500,000. On April 1, 

2018, Corporation V pays $500,000 to 

Employee E. The payment satisfies the 

requirements of § 1.162–27(e)(2) through (5) 

as qualified performance-based 

compensation. 

(B) Conclusion. If this section applies, 

Employee E is a covered employee for 

Corporation V’s 2018 taxable year. Because 

the February 1, 2017, plan is a written 

binding contract to pay Employee E $400,000 

if the performance goal is satisfied, this 

section does not apply (and § 1.162–27 does 

apply) to the deduction for the $400,000 

portion of the $500,000 payment. 

Furthermore, pursuant to paragraph (g)(2)(iii) 

of this section, the failure of the 

compensation committee to exercise its 

discretion to reduce the award further to 

$400,000, instead of $500,000, does not result 

in a material modification of the contract. 

Pursuant to § 1.162–27(e)(1), the deduction 

for the $400,000 payment is not subject to 

section 162(m)(1) because the payment 

satisfies the requirements of § 1.162–27(e)(2) 

through (5) as qualified performance-based 

compensation. The deduction for the 

remaining $100,000 of the $500,000 payment 

is subject to this section (and not § 1.162–27) 

and therefore the status as qualified 

performance-based compensation is 

irrelevant to the application of section 

162(m)(1) to this remaining amount. 

(ix) Example 9 (Equity-based 

compensation with underlying grants made 

prior to November 2, 2017)—(A) Facts. On 

January 2, 2017, Corporation T executed a 4- 

year employment agreement with Employee 

G to serve as its PEO, and Employee G serves 

as the PEO for the four-year term. Pursuant 

to the employment agreement, on January 2, 

2017, Corporation T executed a grant 

agreement and granted to Employee G 

nonqualified stock options to purchase 1,000 

shares of Corporation T stock, stock 

appreciation rights (SARs) on 1,000 shares, 

and 1,000 shares of Corporation T restricted 

stock. On the date of grant, the stock options 

had no readily ascertainable fair market value 

as defined in § 1.83–7(b), and neither the 

stock options nor the SARs provided for a 

deferral of compensation under § 1.409A– 

1(b)(5)(i)(A) and (B). The stock options, 

SARs, and shares of restricted stock are 

subject to a substantial risk of forfeiture and 

all substantially vest on January 2, 2020. 

Employee G may exercise the stock options 

and the SARs at any time from January 2, 

2020, through January 2, 2027. On January 2, 

2020, Employee G exercises the stock options 

and the SARs, and the 1,000 shares of 

restricted stock become substantially vested 

(as defined in § 1.83–3(b)). The grant 

agreement pursuant to which grants of the 

stock options, SARs, and shares of restricted 

stock are made constitutes a written binding 

contract under applicable law. The 

compensation attributable to the stock 

options and the SARs satisfy the 

requirements of § 1.162–27(e)(2) through (5) 

as qualified performance-based 

compensation. 

(B) Conclusion. If this section applies, 

Employee G is a covered employee for 

Corporation T’s 2020 taxable year. Because 

the January 2, 2017, grant agreement 

constitutes a written binding contract, this 

section does not apply (and § 1.162–27 does 

apply) to the deduction for compensation 

received pursuant to the exercise of the stock 

options and the SARs, or the restricted stock 

becoming substantially vested (as defined in 

§ 1.83–3(b)). Pursuant to § 1.162–27(e)(1), the 

deduction attributable to the stock options 

and the SARs is not subject to section 

162(m)(1) because the compensation satisfies 

the requirements of § 1.162–27(e)(2) through 

86510 Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 

(5) as qualified performance-based 

compensation. However, the deduction 

attributable to the restricted stock is subject 

to section 162(m)(1) because the 

compensation does not satisfy the 

requirements of § 1.162–27(e)(2) through (5) 

as qualified performance-based 

compensation. 

(x) Example 10 (Plan in which an employee 

is not a participant on November 2, 2017)— 

(A) Facts. On October 2, 2017, Employee H 

executes an employment agreement with 

Corporation Y to serve as its PFO, and begins 

employment with Corporation Y. The 

employment agreement, which is a written 

binding contract under applicable law, 

provides that if Employee H continues in his 

position through April 1, 2018, Employee H 

will become a participant in the NQDC plan 

of Corporation Y and that Employee H’s 

benefit accumulated on that date will be 

$3,000,000. On April 1, 2021, Employee H 

receives a payment of $4,500,000 (the 

increase from $3,000,000 to $4,500,000 is not 

a result of a material modification as defined 

in paragraph (g)(2) of this section), which is 

the entire benefit accumulated under the 

plan through the date of payment. 

(B) Conclusion. If this section applies, 

Employee H is a covered employee for 

Corporation Y’s 2021 taxable year. Even 

though Employee H was not eligible to 

participate in the NQDC plan on November 

2, 2017, Employee H had the right to 

participate in the plan under a written 

binding contract as of that date. Because the 

amount required to be paid pursuant to the 

written binding contract is $3,000,000, this 

section does not apply (and § 1.162–27 does 

apply) to the deduction for the $3,000,000 

portion of the $4,500,000. Pursuant to 

§ 1.162–27(c)(2), Employee H is not a covered 

employee of Corporation Y for the 2021 

taxable year. The deduction for the 

$3,000,000 portion of the $4,500,000 is not 

subject to section 162(m)(1). The deduction 

for the remaining $1,500,000 portion of the 

payment is subject to this section (and not 

§ 1.162–27). 

(xi) Example 11 (Material modification of 

annual salary)—(A) Facts. On January 2, 

2017, Corporation R executed a 5-year 

employment agreement with Employee I to 

serve as Corporation R’s PFO, providing for 

an annual salary of $1,800,000. The 

agreement constitutes a written binding 

contract under applicable law. In 2017 and 

2018, Employee I receives the salary of 

$1,800,000 per year. In 2019, Corporation R 

increases Employee I’s salary by $40,000, 

which is less than a reasonable cost-of-living 

increase from $1,800,000. On January 1, 

2020, Corporation R increases Employee I’s 

salary to $2,400,000. The $560,000 increase 

exceeds a reasonable, annual cost-of-living 

increase from $1,840,000. 

(B) Conclusion ($1,840,000 Payment in 

2019). If this section applies, Employee I is 

a covered employee for Corporation R’s 2018 

through 2020 taxable years. Because the 

January 1, 2017, agreement is a written 

binding contract to pay Employee I an annual 

salary of $1,800,000, this section does not 

apply (and § 1.162–27 does apply) to the 

deduction for Employee I’s annual salary 

unless the change in the employment 

agreement is a material modification. 

Pursuant to § 1.162–27(c)(2), Employee I is 

not a covered employee of Corporation R for 

the 2019 taxable year, so the deduction for 

the $1,800,000 salary is not subject to section 

162(m)(1). Even though the $40,000 increase 

is made on the basis of substantially the same 

elements or conditions as the salary, the 

$40,000 increase does not constitute a 

material modification of the written binding 

contract because the $40,000 is less than or 

equal to a reasonable cost-of-living increase. 

However, the deduction for the $40,000 

increase is subject to this section (and not 

§ 1.162–27). 

(C) Conclusion (Salary increase to 

$2,400,000 in 2020). The $560,000 increase 

in salary in 2020 is a material modification 

of the written binding contract because the 

additional compensation is paid on the basis 

of substantially the same elements or 

conditions as the salary, and it exceeds a 

reasonable, annual cost-of-living increase 

from $1,840,000. Because the written binding 

contract is materially modified as of January 

1, 2020, the deduction for all salary paid to 

Employee I on and after January 1, 2020, is 

subject is subject to this section (and not 

§ 1.162–27). 

(xii) Example 12 (Additional payment not 

considered a material modification)—(A) 

Facts. The facts are the same as in paragraph 

(g)(3)(xi) of this section (Example 11), except 

that instead of an increase in salary, in 2020 

Employee I receives a restricted stock grant 

subject to Employee I’s continued 

employment for the balance of the contract. 

(B) Conclusion. The restricted stock grant 

is not a material modification of the written 

binding contract because any additional 

compensation paid to Employee I under the 

grant is not paid on the basis of substantially 

the same elements and conditions as 

Employee I’s salary. However, the deduction 

attributable to the restricted stock grant is 

subject to this section (and not § 1.162–27). 

(h) Effective/Applicability dates—(1) 

Effective date. This section is effective 

on December 30, 2020. 

(2) Applicability dates—(i) General 

applicability date. Except as otherwise 

provided in paragraph (h)(2)(ii) of this 

section, this section applies to taxable 

years beginning on or after December 

30, 2020. Taxpayers may choose to 

apply this section for taxable years 

beginning after December 31, 2017, and 

before December 30, 2020 provided the 

taxpayer applies this section in its 

entirety and in a consistent manner. 

(ii) Special applicability dates—(A) 

Definition of covered employee. The 

definition of covered employee in 

paragraph (c)(2)(i) of this section applies 

to taxable years ending on or after 

September 10, 2018. However, for a 

corporation whose fiscal year and 

taxable year do not end on the same 

date, the rule in paragraph (c)(2)(i)(B) of 

this section requiring the determination 

of the three most highly compensated 

executive officers to be made pursuant 

to the rules under the Exchange Act 

applies to taxable years ending on or 

after December 20, 2019. 

(B) Definition of predecessor of a 

publicly held corporation—(1) Publicly 

held corporations that become privately 

held. The definition of predecessor of a 

publicly held corporation in paragraph 

(c)(2)(ii)(A) of this section applies to any 

publicly held corporation that becomes 

a privately held corporation for a 

taxable year beginning after December 

31, 2017, and, subsequently, again 

becomes a publicly held corporation on 

or after December 30, 2020. The 

definition of predecessor of a publicly 

held corporation in paragraph 

(c)(2)(ii)(A) of this section does not 

apply to any publicly held corporation 

that became a privately held corporation 

for a taxable year beginning before 

January 1, 2018, with respect to the 

earlier period as a publicly held 

corporation; or a publicly held 

corporation that becomes a privately 

held corporation for a taxable year 

beginning after December 31, 2017, and, 

subsequently, again becomes a publicly 

held corporation before December 30, 

2020. 

(2) Corporate transactions. The 

definition of predecessor of a publicly 

held corporation in paragraphs 

(c)(2)(ii)(B) through (H) of this section 

applies to corporate transactions that 

occur (as provided in the transaction 

timing rule of paragraph (c)(2)(ii)(I) of 

this section) on or after December 30, 

2020. With respect to any of the 

following corporate transactions 

occurring after December 20, 2019, and 

before December 30, 2020, excluding 

target corporations from the definition 

of the term ‘‘predecessor’’ is not a 

reasonable good faith interpretation of 

the statute: 

(i) A publicly held target corporation 

the stock or assets of which are acquired 

by another publicly held corporation in 

a transaction to which section 381(a) 

applies. 

(ii) A publicly held target corporation, 

at least 80% of the total voting power 

of the stock of which, and at least 80% 

of the total value of the stock of which, 

are acquired by a publicly held 

acquiring corporation (including an 

affiliated group). 

(C) Definition of compensation. The 

definition of compensation provided in 

paragraph (c)(3)(ii) of this section 

(relating to distributive share of 

partnership deductions for 

compensation paid) applies to any 

deduction for compensation that is paid 

after December 18, 2020. The definition 

of compensation in paragraph (c)(3)(ii) 

does not apply to compensation paid 

pursuant to a written binding contract 

that is in effect on December 20, 2019, 

Federal Register / Vol. 85, No. 250 / Wednesday, December 30, 2020 / Rules and Regulations 86511 

and that is not materially modified after 

that date. For purposes of this paragraph 

(h)(3), written binding contract and 

material modification have the same 

meanings as provided in paragraphs 

(g)(1) and (2) of this section. 

(D) Corporations that become publicly 

held. The rule in paragraph (d) of this 

section (providing that the deduction 

limitation of paragraph (b) of this 

section applies to a deduction for any 

compensation that is otherwise 

deductible for the taxable year ending 

on or after the date that a privately held 

corporation becomes a publicly held 

corporation) applies to corporations that 

become publicly held after December 

20, 2019. A privately held corporation 

that becomes a publicly held 

corporation on or before December 20, 

2019, may rely on the transition rules 

provided in § 1.162–27(f)(1) until the 

earliest of the events provided in 

§ 1.162–27(f)(2). A subsidiary that is a 

member of an affiliated group (as 

defined in § 1.162–27(c)(1)(ii)) may rely 

on transition relief provided in § 1.162– 

27(f)(4) if it becomes a separate publicly 

held corporation (whether in a spin-off 

transaction or otherwise) on or before 

December 20, 2019. 

(E) Transition rules. Except for the 

transition rules in paragraphs (g)(1)(v) 

through (vii) of this section, the 

transition rules in paragraphs (g)(1) and 

(2) of this section (providing that this 

section does not apply to compensation 

payable under a written binding 

contract which was in effect on 

November 2, 2017, and which is not 

modified in any material respect on or 

after such date) apply to taxable years 

ending on or after September 10, 2018. 

■ Par. 4. Section 1.338–1 is amended by 

revising paragraph (b)(2)(i) to read as 

follows: 

§ 1.338–1 General principles; status of old 

target and new target. 

* * * * * 

(b) * * * 

(2) * * * 

(i) The rules applicable to employee 

benefit plans (including those plans 

described in sections 79, 104, 105, 106, 

125, 127, 129, 132, 137, and 220), 

qualified pension, profit-sharing, stock 

bonus and annuity plans (sections 

401(a) and 403(a)), simplified employee 

pensions (section 408(k)), tax qualified 

stock option plans (sections 422 and 

423), welfare benefit funds (sections 

419, 419A, 512(a)(3), and 4976), 

voluntary employee benefit associations 

(section 501(c)(9) and the regulations 

thereunder (§§ 1.501(c)(9)–1 through 

1.501(c)(9)–8)) and certain excessive 

employee remuneration (section 162(m) 

and the regulations thereunder 

(§§ 1.162–27, 1.162–31, and 1.162–33)); 

* * * * * 

Sunita Lough, 

Deputy Commissioner for Services and 

Enforcement. 

Approved: December 11, 2020. 

David J. Kautter, 

Assistant Secretary of the Treasury (Tax 

Policy). 

[FR Doc. 2020–28484 Filed 12–28–20; 8:45 am] 

BILLING CODE 4830–01–P 

DEPARTMENT OF TREASURY 

31 CFR Part 1 

RIN 1505–AC66 

Privacy Act of 1974; Exemption 

AGENCY: Departmental Offices, 

Department of the Treasury. 

ACTION: Final rule. 

SUMMARY: In accordance with the 

requirements of the Privacy Act of 1974, 

the Department of the Treasury, 

Departmental Offices (DO) gives notice 

of a final rule exemption for a new 

system of records entitled ‘‘Department 

of the Treasury, Departmental Offices 

.227—Committee on Foreign Investment 

in the United States (CFIUS) Case 

Management System,’’ maintained by 

the Committee on Foreign Investment in 

the United States from certain 

provisions of the Privacy Act. The 

exemption is intended to comply with 

the legal prohibitions against the 

disclosure of certain kinds of 

information and to protect certain 

information maintained in this system 

of records. 

DATES: Effective December 30, 2020. 

FOR FURTHER INFORMATION CONTACT: 

Ryan Law, Deputy Assistant Secretary 

for Management, Office of Privacy, 

Transparency, and Records, 1750 

Pennsylvania Avenue NW, 8th Floor, 

Washington, DC 20220. Mr. Law may be 

reached via telephone at (202) 622- 5710 

(not a toll free number). 

SUPPLEMENTARY INFORMATION: 

Background 

The Department of the Treasury 

(Treasury) published a notice of 

proposed rulemaking in the Federal 

Register, 85 FR 58308, September 18, 

2020, proposing to exempt portions of 

the system of records from one or more 

provisions of the Privacy Act. As 

background, in 2018, the Foreign 

Investment Risk Review Modernization 

Act of 2018 (FIRRMA), Subtitle A of 

Title XVII of Public Law 115–232, 132 

Stat. 2173, was enacted. FIRRMA 

amends section 721 of the Defense 

Production Act of 1950, as amended 

(Section 721), which delineates the 

authorities and jurisdiction of the 

Committee on Foreign Investment in the 

United States (CFIUS). FIRRMA 

maintains CFIUS’s jurisdiction over any 

transaction that could result in foreign 

control of any U.S. business, and 

broadens the authorities of the President 

and CFIUS under Section 721 to review 

and take action to address any national 

security concerns arising from certain 

non-controlling investments and certain 

real estate transactions involving foreign 

persons. 

Executive Order 13456, 73 FR 4677 

(January 23, 2008), directs the Secretary 

of the Treasury to issue regulations 

implementing Section 721. On January 

17, 2020, Treasury published two rules 

broadly implementing FIRRMA, and 

those rules took effect on February 13, 

2020. 85 FR 3112 and 85 FR 3158. 

Subsequent amendments were made to 

the regulations in 2020. 85 FR 8747, 85 

FR 45311, and 85 FR 57124. 

In addition to the exemptions below, 

pursuant to section 721(c) of the 

Defense Production Act of 1950, as 

amended, 50 U.S.C. 4565(c) and subject 

to certain exceptions provided therein, 

any information or documentary 

material filed with the President or 

CFIUS under Section 721 is exempt 

from disclosure under the Freedom of 

Information Act, as amended (FOIA), 5 

U.S.C. 552, and no such information or 

documentary material may be made 

public. 

Treasury published separately the 

notice of the new system of records 

maintained by CFIUS. 85 FR 55534, as 

amended. 

Under 5 U.S.C. 552a(k)(1), the head of 

a Federal agency may promulgate rules 

to exempt a system of records from 

certain provisions of 5 U.S.C. 552a if the 

system of records is subject to the 

exemption contained in section 

552(b)(1) of title 5. (FOIA exemption 

(b)(1) protects from disclosure 

information that is ‘‘specifically 

authorized under criteria established by 

an Executive order to be kept secret in 

the interest of national defense or 

foreign policy’’ and is ‘‘in fact properly 

classified pursuant to such Executive 

order.’’) 

Under 5 U.S.C. 552a(k)(2), the head of 

a Federal agency may promulgate rules 

to exempt a system of records from 

certain provisions of 5 U.S.C. 552a if the 

system of records contains investigatory 

materials compiled for law enforcement 

purposes that are not within the scope 

of subsection (j)(2) of the Privacy Act 

(which applies to agencies and