How the OBBB May Impact Your Organization’s Executive Compensation Limits

The OBBB includes two provisions that impact the total “compensation” for some high-paid employees. One provision impacts publicly traded companies. One provision impacts tax-exempt entities.

Although the One Big Beautiful Bill Act, signed into law on July 4, 2025, has limited direct impact on most aspects of executive benefits and nonqualified deferred compensation, the OBBB did include specific changes regarding executive compensation limits for publicly traded companies and tax-exempt entities.[1]

Attorney Barry K. Downey provided our Executive Benefits team with an overview of how the OBBB Act will redefine executive compensation limits for certain organizations. Impacted organizations will want to work closely with their executive benefits consultant, as well as legal and tax professionals, to prepare for the upcoming changes that take effect on January 1, 2026.

Barry is the co-founder and CEO of Smith & Downey, P.A. Barry’s practice specializes in employee benefits and executive compensation. He is a co-author of the National Association of Plan Advisors (NAPA) curriculum for the Nonqualified Plan Consultant (NQPC ™) Credential certification program and co-author of the Nonqualified Deferred Compensation Answer Book.

New IRC Section 162(m)(7) Expansion for Public Companies

The OBBB modifies the rules for determining the $1M cap (under IRC section 162(m)) on total compensation paid during the taxable year to “covered employees” that can be deducted by public company employers.[2] This modification requires that the $1M cap be applied to the aggregate of all compensation paid to a covered employee by all members of the public company’s “controlled group”. The deduction is then allocated to each controlled group member who paid compensation to the covered employee.

This new rule applies to taxable years beginning after December 31, 2025. In addition, for years after 2026, the definition of a covered employee is expanded to include the five highest compensated employees for the year (other than the principal executive officer, the principal financial officer, or the SEC-reportable three other highest paid employees), taking into account the employees of all the controlled group members.

Compensation, for the purposes of these rules, includes all forms of compensation, including incentive compensation and commission-based compensation.

Recommendations for Public Companies

Impacted companies should update their (1) list of “controlled group members” before the end of 2025 and continually update that list with any future acquisitions/dispositions, and (2) list of “covered employees” for years after 2026 to include the employees who will be included under the expanded definition for years after 2026.

Impacted companies should review all compensation arrangements, including deferred compensation arrangements that will pay benefits that must be included in compensation for purposes of these rules, to be prepared for the limitation on the deduction of total payments in excess of $1M. Types of deferred compensation to review include split-dollar arrangements, supplemental executive retirement plans (SERPs), performance-based compensation such as long-term incentive plans (LTIPs) and short-term incentive plans (STIPs).

New IRC Section 4960(c)(2) – Expansion for Tax-Exempt Entities

The OBBB modifies the rules for applying the IRC Section 4960 21% excise tax on tax-exempt entities on total compensation paid during the taxable year to “covered employees” in excess of $1M.[3] This modification expands the definition of “covered employees” from the top five highest paid employees of the tax-exempt entity (including any employee who was one of the top five highest paid employees in any taxable year beginning after December 31, 2016), to any employee (or former employee) of the tax-exempt entity during any taxable year beginning after December 31, 2016. This new rule applies to taxable years beginning after December 31, 2025.

Recommendations for Tax-Exempt Entities:

• Review compensation of all employees (and former employees) in taxable years beginning after 2016 to identify covered employees.
• Review compensation of covered employees that is at or near $1 million and determine whether excise tax is potentially applicable.
• Review with ERISA counsel any Code Section 457(f) Plans to determine upcoming vesting dates and projected amounts payable thereunder, to determine their impact on compensation, and evaluate possible design changes that will lessen the plans’ impacts on compensation (e.g., accelerated vesting, delayed deferrals for future years, conversion of 457(f) to “loan regime” collateral assignment split-dollar).
• Review with ERISA counsel any employment agreements, severance agreements, split-dollar agreements, and incentive compensation plans to determine their impact on compensation and to determine whether “excess parachute payments” are possible.
• Coordinate with the Compensation Committee to determine the next steps.
• Notify any employees affected by any changes to compensation or benefits.
• Notify those who administer benefits and those who prepare the organization’s tax filings of the changes (e.g., those in the HR, payroll, and finance departments).

 

To learn more about executive benefits strategies, we invite you to read: Deferred Compensation Plans for Retaining Valued 1099 Independent Contractors, Reasons to Reevaluate Your Rabbi Trust and How the 2025 Retirement Plan Limits Impact Highly Compensated Employees.

To read more about the impacts of the OBBB, go to: OBBB Tax Credits and Deductions: What Employers Need to Know and “Big, Beautiful Bill” and Its Impact on Employee Benefits

Sources:
[1]Congress.gov, "One Big Beautiful Bill Act"
[2]Cornell Law School, "26 U.S. Code § 162 - Trade or business expenses"
[3]US House of Representatives, "26 USC 4960: Tax on excess tax-exempt organization executive compensation"

 

This material has been prepared for informational and educational purposes only, and is not intended to provide, and should not be relied on for accounting, legal or tax advice. Any tax advice contained herein is of a general nature. You should seek specific advice from your tax professional and/or legal advisors before pursuing any idea contemplated herein. The examples shown are for illustrative purposes only. The material in this report may contain financial illustrations, which may reflect hypothetical dividends, interest, rates of return, and/or expense and mortality assumptions, none of which are guaranteed.

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