Deferred Compensation Plan Best Practices and IRC Section 409A NONQUALIFIED (NQ) DEFERRED COMPENSATION For Plan Sponsor Use Only Updated October 2015

For Plan Sponsor Use Only Nonqualified Deferred Compensation Plans & Section 409A  Section 409A was codified into law in 2004 with full operation and documentary compliance beginning in 2009 o Some amounts prior to 2005 may have grandfathered status  Section 409A provides specific nonqualified deferred compensation (NQDC) provisions regarding: o Deferral of compensation elections o Distribution events and elections o Payment options and restrictions o Compliance

For Plan Sponsor Use Only Common Questions What plans are regulated by Section 409A? What are the basics of Section 409A? What are the action steps for plan sponsors?

For Plan Sponsor Use Only plans regulated by 409A SECTION 409A DEFERRED COMPENSATION PLAN BEST PRACTICES AND IRC SECTION 409A For Plan Sponsor Use Only

ExceptionsEquity plans generally not covered Tax qualified plans Tax deferred annuities 457(b) – [457(f) plans covered] SEP SIMPLE 415(m) – Government Excess Bonafide vacation, sick leave, compensatory time, disability and death benefit plans Nonqualified stock options Incentive stock options Employee stock purchase plans Stock Appreciation Rights (SARS) Discounted options covered What plans are covered? “Any plan that provides for the deferral of compensation”

For Plan Sponsor Use Only Plan aggregation rules All arrangements in each of these categories are “aggregated” under Section 409A  Elective account balance plans  Non-elective account balance plans  Non-account balance plans  Separation pay arrangements – with exceptions  Split dollar life insurance arrangements  Reimbursement plans  Stock rights  Foreign plans  All other plans

For Plan Sponsor Use Only the basics SECTION 409A DEFERRED COMPENSATION PLAN BEST PRACTICES AND IRC SECTION 409A For Plan Sponsor Use Only

Section 409A: the basics Deferral Elections  Annual deferral election o Election must be made prior to the beginning of the calendar year when compensation is earned (salary deferral, non-performance based bonus compensation)  Performance-based deferral election o Election six months prior to the end of performance period Compensation for services earned in at least a 12-month period Defined as compensation where the “amount of or entitlement to is contingent upon the satisfaction of pre-established organizational or individual performance criteria

For Plan Sponsor Use Only Section 409A: the basics Deferral Elections  Annual deferral election o Election must be made prior to the beginning of the calendar year when compensation is earned (salary deferral, non-performance based bonus compensation)  Performance-based deferral election o Election six months prior to the end of performance period Compensation for services earned in at least a 12-month period Defined as compensation where the “amount of or entitlement to is contingent upon the satisfaction of pre-established organizational or individual performance criteria

For Plan Sponsor Use Only Section 409A: the basics Deferral Elections (continued)  Newly eligible participant deferral election o Within 30 days of new eligibility to participate in the plan, subject to plan aggregation rules o Salary deferral election For earnings subsequent to the date of the election o Performance-based deferral election Calculated on a pro-rata basis being the number of days left in the earnings period subsequent to the date of the election, over the total number of days in the earnings period Non-performance-based similarly pro-rata

For Plan Sponsor Use Only Section 409A: the basics Distribution events  No distributions earlier than one of six specified events: o Separation from service o Delayed payment: – Key employees of public companies, as defined by IRC Sec. 416(i) there is a six-month waiting period upon a separation of service event o Specified time or pursuant to a fixed schedule o Death o Disability o Change in control o Unforeseeable emergency

For Plan Sponsor Use Only Section 409A: the basics Other allowable distribution events  Plan termination o Upon a Change in Control o Corporate dissolution o At the plan sponsor’s discretion if: Only scheduled (elected) distributions made in the first 12 months Distributions start after 12 months, entirely paid out within 24 months No plan of the same type for three years Plan aggregation rule applies Not proximate to a downturn in financial health of the employer  Exceptions under the Anti-Acceleration Provision o Qualified Domestic Relations Order, De Minimis amounts, amounts to pay taxes resulting from income inclusion, and amounts includable in income due to plan failure

For Plan Sponsor Use Only Section 409A: the basics Payment options and restrictions  Objective and determinable payments o Best Practices: lump sum or annual payments  Subsequent elections (re-deferral) o Must be made at least 12 months in advance o Must be re-deferred for a minimum of five years, unless for death, disability, or unforeseeable emergency. o Unlimited re-deferrals permitted with additional five year delay

For Plan Sponsor Use Only Section 409A: the basics Payment options and restrictions (continued)  Plan documents must specify which way a series of payments is going to be treated o Series of payments may be defined as: o Single Payment o Separate payments

For Plan Sponsor Use Only Section 409A: the basics Payment options and restrictions (continued)  Example: a 10-year installment payout, if the installment is treated as a single payment o Must re-defer at least 12 months in advance of the first installment o And delay the first payment for at least five years o Form of payment may be changed as well  If lump sum is elected, entire balance paid at year 5!

For Plan Sponsor Use Only Section 409A: the basics Payment options and restrictions (continued)  Example: a 10-year installment payout, if the installment is treated as separate payments o Each installment is treated individually o Must re-defer at least 12 months in advance of each installment to be changed o And delay that payment for at least five years o Other installment payments not affected

For Plan Sponsor Use Only Section 409A: the basics Compliance  Reporting requirements o Annual reporting of deferrals on W-2 or 1099 forms, reporting suspended until Treasury and IRS issue guidance. Reporting of violations of 409A currently required. o Amounts in violation of 409A are required to be reported.  Penalties for non-compliance o Regular income tax plus: o Underpayment interest plus 1.0% o 20% penalty on includable compensation

For Plan Sponsor Use Only Section 409A Correction Programs Documentary and Operational Voluntary Compliance Programs are available (IRS Notices & ) Certain documentary corrections & certain inadvertent operational corrections may be made to generally reduce or avoid Section 409A penalties.

For Plan Sponsor Use Only Features of Nonqualified Deferred Compensation Plans Compliance  Pre-tax deferral of compensation  No limitation on contributions – up to 100%  Tax deferred earnings  Individual investment strategies  In-service & education accounts  Informal financing options o Corporate-owned life insurance (COLI) financing option o Taxable Investments

For Plan Sponsor Use Only More Treasury guidance expected IRS guidance – more to come  Section 409A Reporting o W-2 and 1099 reporting and deferrals o Violations already required to be reported  IRS anticipates further corrections guidance in the future  457(f) regulations and interaction with Section 409A

For Plan Sponsor Use Only Pension Protection Act of 2006 IRC 101(j)  Top 35% of employees may be covered  Written consent requirements for insureds  Annual IRS reporting Section 409A  Covers Section 16(a) employees of publicly traded companies  Restrictions on “funding” of nonqualified deferred compensation benefits when a qualified plan is underfunded  Transfers to Rabbi Trusts or other amounts “transferred or set aside” could cause taxation to nonqualified plan participants  No IRS guidance at this time!

For Plan Sponsor Use Only plan sponsor action steps SECTION 409A DEFERRED COMPENSATION PLAN BEST PRACTICES AND IRC SECTION 409A For Plan Sponsor Use Only

Plan Sponsor action steps  Plan documents should be in compliance; coordinate with legal counsel and plan administrative services provider to ensure that the plan is actually being operated in compliance with the plan documents.  Perform audits of deferral and distribution elections to ensure operational compliance  Final regulations require strict operational and documentary compliance. If a deferred compensation arrangement is found to be in violation of 409A, tax and penalties will be assessed to the plan participant.  Take advantage of and make corrections through the Voluntary Compliance Programs when possible

For Plan Sponsor Use Only Plan Sponsor action steps If there is no NQDC plan in place, now is the best time to provide this significant benefit for key employees  Best practices have been codified by Section 409A and final regulations  IRS, through the final regulations, has set very specific rules for compliance

For Plan Sponsor Use Only The Principal® Value Proposition Service package:  Plan review and design  Implementation  Plan administrative services  Financing options Support all three financing platforms:  Unfinanced  Taxable investments  Corporate-owned life insurance (COLI) Or, a combination of financing the above internet-based, plan- level administrative services

For Plan Sponsor Use Only The Principal® Value Proposition  Section 409A Expertise o Plan design and features o Plan administrative services  Section 409A plan document support  Multi-plan administrative services already in place o Full programmed for 409A regulations and grandfathering  Asset/Liability rebalancing services

For Plan Sponsor Use Only The Principal® Value Proposition  Complete NQDC plan offering o Defined contribution o Defined benefit o 457(b) o 457(f)  Provide plan administrative services expertise for over 2,000 Section 409A plans  A Principal Total Retirement Suite SM offering o Qualified Defined Contribution & Qualified Defined Benefit o Employee Stock Ownership Plan (ESOP) o Nonqualified Deferred Compensation  The Principal ® is the No. 1 provider of nonqualified deferred compensation plans* * Based on total number of NQDC plans, PLANSPONSOR 2015 NQDC Buyer’s Guide

For Plan Sponsor Use Only Q&A DEFERRED COMPENSATION PLAN BEST PRACTICES AND IRC SECTION 409A Questions? For Plan Sponsor Use Only

DEFERRED COMPENSATION BEST PRACTICES AND IRC SECTION 409A BB | 02/2016 | t bj The subject matter in this communication is provided with the understanding that The Principal ® is not rendering legal, accounting, or tax advice. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, or accounting obligations and requirements. Insurance products issued by Principal National Life Insurance Co. (except in NY) and Principal Life Insurance Co. Plan administrative services offered by Principal Life. Principal Funds, Inc. is distributed by Principal Funds Distributor, Inc. Securities offered through Principal Securities, Inc., , member SIPC, and/or independent broker/dealers. Principal National, Principal Life and Principal Securities are members of the Principal Financial Group ®, Des Moines, Iowa No part of this presentation may be reproduced or used in any form or by any means, electronic or mechanical, including photocopying or recording, or by any information storage and retrieval system, without prior written permission from the Principal Financial Group ®. Copyright © 2015 Principal Financial Services, Inc. For Plan Sponsor Use Only