What Is the New Rule for § 162(m)?
On July 3, 2025, Congress passed the One Big Beautiful Bill Act (OB3), which was signed into law on July 4, 2025. One of the provisions enacted was to revise Section 162(m) of the Internal Revenue Code (IRC), titled “Certain Excess Employee Remuneration,” which disallows deductions by any publicly held corporation and its controlled group, for “compensation” paid to any “covered employee” in excess of $1 million.
Proposed Regulation Section 1.162-33-(c)(3)(iv) provides that compensation includes the aggregate amount allowable as a deduction to the publicly held corporation for the taxable year, (determined without regards to Section 162(m)(1)), to obtain the services performed by such individual, whether or not the particular service that gives rise to the deduction were performed during the relevant tax year. This implies that if compensation that would have been limited under §162 (m) is not deductible in the year the services were performed because of for example, §263A, and in a subsequent year, that property is depreciated or amortized during the current year, the expense that had been capitalized is taken into account as part of the §162(m) limitation in the current year and thereafter. Otherwise, this creates a loophole not considered by Congress.
The OB3 § 162(m) changes the following:
- Expanding the entities that could be aggregated with the publicly held corporation for purposes of applying the $1 million deduction limitation.
- Allocating the deduction limitation proportionally among the publicly held corporation’s controlled group members.
- Clarifying that the additional five highest compensated covered employees that were added by § 162(m) of the American Rescue Plan Act of 2021 (ARP) will also be determined on the same control group aggregate basis.
Prior Law
Under prior law, § 162(m) and the regulations thereunder, required a publicly held corporation to include only affiliated entities under § 1504 of the IRC or those entities that shared an 80% ownership and could be included in a consolidated return.
- 162(m), applied to compensation pay of any covered employee, which is generally defined as anyone who served as a principal officer, i.e., the CEO or principal financial officer like the CFO, at any time during the taxable year and the next three highest compensated executive officers who are required to be included in the company’s annual proxy report statement under the section on SEC executive compensation disclosure rules and anyone who has been a covered employee under these categories since January 1, 2017.
Section 162 (m)(3)(C), provides that in the case of any taxable year beginning after December 31, 2026, a covered employee includes such an employee who is (i) among the five highest compensated employees for the taxable year other than any individual described in subparagraph A&B. Subparagraph A&B provides that covered employees includes such employees who are (i) a principal executive officer or (ii) a principal financial officer and (iii) the three highest compensated officers for the year as reported to the shareholders under the SEC Act of 1934, other than any individual described in Subparagraph A.
Accordingly, for tax years beginning on December 31, 2026, covered employees would include (i) principal executive officer, (ii) principal financial officer, (iii-v) the next three highest officers described in the SEC, and (v-x), the next five highest compensated employees who are not described above. Ten employees could be treated as covered employees for tax years beginning after December 31, 2026.
OB3’s Impact
The “publicly held controlled group” definition under OB3 is much broader and includes parent-subsidiary controlled groups, brother or sister controlled groups, partnerships, and affiliated service groups.
OB3 requires a publicly held corporation that is a member of a controlled group to allocate the maximum amount of deduction on a controlled group basis. In effect, if multiple members of the controlled group provide compensation to covered employees, the $1 million deduction must be allocated among such members in proportion to the amount such employees were paid by the members of the controlled group.
To summarize, effective for tax years beginning after December 31, 2025, a publicly held real estate investment trust (REIT) will now need to consider its expanded § 414 controlled group in determining who the five covered employees are for purposes of the $1 million limitation. In addition, for tax years beginning after December 31, 2026, a publicly held REIT will need to consider the expanded § 414 controlled group in determining who the 10 covered employees are for purposes of the $1 million deduction limitation.
Our Observation
The consequences of this for a publicly held REIT and its controlled members are that the $1 million limitation will affect more entities and more employees. For example, there may be a situation where the same covered employee is an employee of the publicly held REIT, its affiliated partnership, taxable REIT subsidiary, and a management company that provides services to any of those above entities.
Any disallowance of compensation paid above the $1 million to any of these five covered and after the 2026 tax year, any of the top 10 compensated employees will now be disallowed. This will have the effect of causing the REIT or its controlled group to incur non-deductible, cash outlays. This, in turn, may cause the REIT to have issues meeting the 90% distribution requirement or distributing 100% of its taxable income. In addition, the disallowed deduction will not reduce the REIT’s earnings and profits, which will increase potential taxable dividends. Moreover, §562(e) and §857(d) provide that the earnings and profits of a REIT for any taxable year shall not be reduced by any amount that is not allowable in computing its taxable income for such year.
One bright spot for an umbrella partnership real estate investment trust (UPREIT)’s covered employees is that compensation paid in the form of profits interests, if held by the employee for more than two years, will not give rise to a deduction for the REIT controlled group and therefore will not be subject to § 162(m).
Based on the above, it is incumbent on publicly held REITs to review the members of their controlled group under this expanded definition and to determine the tax consequences of both the expanded group as well as the expanded number of covered employees.
How Forvis Mazars Can Help
Forvis Mazars can help you with this review and with modeling the effects of this change. For more information or to get your questions answered, reach out to one of our professionals.