The Application of Section 280G to Affiliated Groups for Excess Parachute Payments

Section 280G of the Internal Revenue Code (IRC) applies to so-called “golden parachute payments,” which generally are made when a corporation experiences a change in control. Under this section, disqualified individuals who receive excess parachute payments must pay a 20% excise tax on those payments, and the corporation loses the deduction for those payments. 

Parachute payments are payments contingent on a corporation’s change in control. Disqualified individuals are employees, directors, or contractors who were officers, greater than 1% shareholders, or highly compensated individuals during the 12 months before the change in control. 

If a disqualified individual’s total contingent payments are more than three times the disqualified individual’s “base amount,” which is usually their average compensation over the past five years, then they are parachute payments. In turn, any parachute payments that are more than one time the disqualified individual’s base amount are subject to the mandates of Section 280G.

Section 280G applies to “corporations,” including normal corporate entities, publicly traded partnerships, and foreign corporations. On the other hand, Section 280G does not apply to partnerships or S-corporations. While it is tempting to stop the analysis there, organizations must ensure that the “affiliated group” rules of Section 280G do not apply to the entity. 

Under Section 280G, all members of the same “affiliated group,” as defined in Code Section 1504, with minor changes, are treated as a single corporation for several purposes. Some of these purposes under Section 280G include identifying disqualified individuals, events that constitute a change in control of a corporation, and which corporations are exempt. Essentially, if a common parent owns 80% or more of companies, either by value or voting power, then the companies are an “affiliated group” and considered one corporation for the purposes of Section 280G. Some companies that otherwise would be exempt from Section 280G are subject to it due to the “affiliated group” provision.

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