The Final 409A Deferred Compensation Regulations (Issue Brief)

Extending the exercise period of a stock option or SAR disqualifies it from the Section 409A exemption, retroactive to the original grant date, with one exception. The award will not violate Section 409A if the exercise period may not be extended beyond the later of: (1) the end of the calendar year in which the grant would have expired without the extension, or (2) the 15th day of the third month after the normal expiration date.

The final regulations provide that the post-termination exercise period of a stock right may be extended until the earlier of: (i) the end of its original maximum contractual term, or (ii) 10 years from the date of grant. In addition, if the stock right is at-the-money or underwater (i.e., has an exercise price equal to or greater than the fair market value of the underlying stock at the time of the extension), then the stock right may be extended without being subject to the above limitations.

Extensions of stock rights before April 10, 2007, are disregarded.

Acceleration

Accelerating the vesting of a stock right that was exempt from 409A at grant is not considered to be a modification and is permissible.

Discretionary Added Benefits

Addition of the discretion to grant the holder an additional benefit under the stock right at some time in the future will constitute a modification. If a stock right is modified, it is treated as a new grant on the date of modification and is analyzed at that time under the exemption requirements. If the modification occurs at a time when the fair market value of the stock is greater than the exercise price of the stock right being modified, the stock right will lose its exemption because it will be treated as a below-market-value stock right issued on the date of the modification.

Change in Underlying Stock That Increases Value

A change in the terms of the stock subject to a stock right that increases the value of the stock is a modification of such stock right, except to the extent that a new stock right is substituted for such stock right pursuant to a corporate transaction.

Change in the Number of Shares Purchasable

A change in the number of shares purchasable pursuant to the stock right is treated as a grant of a new additional stock right as to the additional shares. However, if the exercise price of the number of shares subject to a stock right is proportionally adjusted to reflect the stock split or stock dividend and the only effect of that split or dividend is to increase or decrease on a prorated basis the number of shares owned by each shareholder of that class, then there is no modification, provided the stock rate is proportionally adjusted to reflect the split or dividend and the aggregate exercise price is not less than the exercise price before the stock split or stock dividend.