In any merger or acquisition, few topics demand more technical accuracy than IRC Section 280G. Known as the golden parachute rule, it governs how executive compensation tied to a change in control is treated for tax purposes. The provision can shape deal value, affect executive payouts, and influence how quickly a transaction closes.
Section 280G denies corporate tax deductions on certain excess payments made to key executives. At the same time, Section 4999 imposes a 20 percent excise tax on recipients whose payments exceed defined limits. While the regulation aims to discourage excessive payouts, it also introduces substantial modeling complexity that affects every stage of the deal process.
Understanding the Core Definitions
Three key concepts form the backbone of every 280G analysis:
Parachute Payments
Compensation or benefits triggered by a change in control. These can include cash severance, accelerated vesting of equity, or bonuses linked to the transaction.
Base Amount
The average annual taxable compensation an executive earned over the prior five years. This number serves as the benchmark for calculating permissible payments.
Excess Parachute Payment
When total parachute payments equal or exceed three times the base amount, the portion exceeding one times the base amount becomes nondeductible and triggers the 20 percent excise tax for the individual.
A Practical Example
Imagine an executive whose base amount is $500,000 and who receives $1.6 million in parachute payments after a merger.
- Three times the base amount equals $1.5 million.
- The excess of $1.1 million ($1.6 million minus $500,000) becomes nondeductible for the company and subject to excise tax for the individual.
A small misstep in calculating thresholds or classifying compensation can easily lead to millions in lost deductions or tax penalties.
Where the Pitfalls Arise
Errors under 280G rarely stem from misunderstanding the law. Instead, they occur when data, assumptions, and timing are inconsistent across departments. Common issues include:
- treating equity acceleration uniformly when award types differ
- failing to identify who qualifies as a disqualified individual
- using outdated compensation data to determine the base amount
- conducting analysis too late in the transaction cycle
When legal, tax, and HR teams work from different models, discrepancies multiply and documentation suffers.
Building Confidence Through Accuracy
The most effective deal teams treat 280G as a structured process rather than a compliance formality. They begin modeling early, align valuation assumptions across functions, and document every step of the analysis. Scenario testing—such as comparing cutback and gross-up provisions—provides insight into how different strategies affect both executives and shareholders.
Closing Thought
280G may be a technical provision, but its impact on deal economics and governance transparency is tangible. By addressing it early and managing it with rigor, companies preserve value and credibility throughout the transaction lifecycle.
Contact us today to explore how accurate modeling can strengthen your next deal.
FAQs
Q1: What is IRC Section 280G?
Section 280G of the Internal Revenue Code limits corporate tax deductions for certain change-in-control payments, also called golden parachutes, to executives.
Q2: What triggers 280G penalties?
Penalties apply when total change-in-control payments equal or exceed three times an executive’s base amount, resulting in excise tax and loss of deduction.
Q3: How can companies avoid 280G exposure?
Organizations can perform early modeling, structure payouts below thresholds, and document assumptions to support compliance and audit defense.
Q4: Who counts as a disqualified individual?
Typically officers, top executives, or highly compensated employees with significant ownership or influence at the company.
