The IRS has issued proposed regulations dealing with deferred compensation arrangements of state and local governments or tax exempt organizations subject to IRC §457 in REG-147196-07. The regulations deal with numerous issues related to such programs, but most interest is concentrated on how the rules apply “substantial risk of forfeiture” for programs subject to IRC §457(f).

457 plans are divided into “eligible” plans (§457(b) plans) and ineligible plans (§457(f) plans). Eligible plans work much like traditional qualified retirement plans in terms of when an employee is taxed on the amounts, taking place only when the amounts are distributed to the employee. However, participants in §457(f) plans pay tax when the amounts are no longer subject to a substantial risk of forfeiture, regardless of when the participant will actually receive any funds from the plan.