Senate Stimulus Bill Contains Corporate Governance and Executive Compensation Title

The Senate version of the American Recovery and Reinvestment Act contains restrictions on various forms of executive compensation for companies participating in the troubled assets relief program (TARP). The provisions also require each TARP recipient to include in its annual proxy statement a non-binding shareholder advisory vote on the company’s executive cash compensation program. The bill also prohibits golden parachutes to senior executives.

The provisions are in Title VI of the bill, which was added by Senate Banking Committee Chair Christopher Dodd. The Dodd Amendment would apply strong executive compensation requirements consistently to all recipients of TARP funds, regardless of whether they receive a capital injection, sell troubled assets at auction or have other types of transactions.

The bill also prohibits a compensation plan that has incentives for employees to take unnecessary and excessive risks that threaten the value of the company. The board must also adopt company-wide policy on luxury expenditures. It further prohibits compensation plans that would encourage manipulation of reported earnings.

The Dodd Amendment bans bonuses for most highly paid executives of TARP-recipient firms and prohibits TARP recipients from paying a bonus, retention award, or other similar incentive compensation to the 25 most highly-paid employees or such higher number as Treasury may determine is in the public interest with respect to any TARP recipient.

The bill defines senior executive officer to mean an individual who is one of the top five most highly paid executives of a public company, whose compensation is required to be disclosed pursuant to the SEC executive compensation rules. Under SEC rules, these are the CEO and CFO, and the next three most highly compensated executives.

Say on Pay

During the period in which any obligation arising from TARP assistance remains outstanding, any proxy or consent or authorization for an annual or other meeting of the shareholders of any TARP company must permit a separate shareholder vote to approve the compensation of executives, as disclosed pursuant to the SEC compensation disclosure rules, which disclosure must include the compensation discussion and analysis, the compensation tables, and any related material. Within one year of enactment, the SEC must issue final rules and regulations required by this section.

The shareholder vote will be non-binding. Moreover, the bill provides that the vote may not be construed as overruling a decision by the TARP company’s board, nor create any additional fiduciary duty by the board. Similarly, the advisory vote cannot be construed to restrict or limit the ability of shareholders to make proposals for inclusion in proxy materials related to executive compensation.

Compensation Committee

As a matter of sound governance, the bill requires the compensation committee of each TARP recipient to be composed entirely of independent directors. The compensation committee is required to evaluate compensation plans and their potential risk to the financial health of the company. The Act mandates that the compensation committee of each TARP recipient must meet at least semiannually to discuss and evaluate employee compensation plans in light of an assessment of any risk posed to the TARP recipient from such plans

Retroactive Compensation Review

The bill also requires a retroactive review of TARP bonuses already paid out. Under this provision, Treasury must review bonus awards paid to executives of TARP recipients to determine whether any payments were excessive, inconsistent with the purposes of the Act or the TARP or otherwise contrary to public interest. If they are, Treasury must negotiate with the recipient and the subject employee for appropriate reimbursement to the federal government.

The measure also allows for the government to claw back any bonus or incentive compensation paid to an executive based on reported earnings or other criteria later found to be materially inaccurate.

Cap Executive Pay

Title VI of the Act also contains the Cap Executive Pay Act, which provides that no TARP company officer, director, executive, or other employee may receive annual compensation in excess of the amount of compensation paid to the President of the United States. This compensation limitation must be a condition of the receipt of assistance under the TARP, and of any modification to such assistance that was received on or before the date of enactment of the recovery act and must remain in effect with respect to each financial institution or other entity that receives such assistance or modification for the duration of the assistance or obligation provided under the TARP.

The Act broadly defines compensation to include wages, salary, deferred compensation, retirement contributions, options, bonuses, property, and any other form of compensation or bonus that Treasury determines is appropriate. Also, the Treasury is ordered to expeditiously issue such rules as are necessary to carry out this act, including with respect to reimbursement of compensation amounts.

This pay act, introduced by Senator Claire McCaskill effectively says that every TARP company executive going forward could not make more than $400,000 a year, and they have to limit that executive compensation for everyone in their company until they pay back every dime to the taxpayers. (See remarks of Sen. Claire McCaskill, CR, pS1127, Jan 30, 2009).

Executive Compensation and Corporate Governance

During the period in which any obligation arising from financial assistance provided under the TARP remains outstanding, each TARP recipient will be subject to the standards established by Treasury under the Act and the provisions of section 162(m)(5) of the Internal Revenue Code.
Under the bill, Treasury must require each TARP recipient to meet detailed and appropriate standards for executive compensation and corporate governance. These standards must include limits on compensation that exclude incentives for senior executive officers of the TARP recipient to take unnecessary and excessive risks that threaten the value of the company during the period that any obligation arising from TARP assistance is outstanding. The standards must also include a provision for the recovery by TARP recipients of any bonus, retention award, or incentive compensation paid to a senior executive officer and any of the next 20 most highly-compensated employees of the TARP recipient based on statements of earnings, revenues, gains, or other criteria that are later found to be materially inaccurate.

Further, the corporate governance standards must include a prohibition on a TARP recipient making any golden parachute payment to a senior executive officer or any of the next five most highly-compensated employees of the TARP recipient during the period that any obligation arising from TARP assistance is outstanding. Another required standard is a prohibition on TARP recipients paying or accruing any bonus, retention award, or incentive compensation during the period that the obligation is outstanding to at least the 25 most highly-compensated employees, or such higher number as Treasury may determine is in the public interest with respect to any TARP recipient.

There must also be a prohibition on any compensation plan that would encourage manipulation of the reported earnings of a TARP recipient to enhance the compensation of any of its employees.

The TARP company CEO and CFO must provide a written certification of compliance by the company with the executive compensation and corporate governance requirements. In the case of a TARP company whose securities are publicly traded, the certification must be provided to the SEC, together with annual filings required under the securities laws. For non-public companies, the certification must be filed with the Treasury.

Excessive Bonuses

If before enactment, the preferred stock of a financial institution was purchased by the government using TASP funds, then the financial institution must redeem an amount of such preferred stock equal to the aggregate amount of all excessive bonuses paid or payable to all covered individuals. Financial institution must comply with this mandate within 120 days after the date of enactment, with respect to excessive bonuses paid before the date of enactment and not later than the day before an excessive bonus is paid, with respect to any excessive bonus paid on or after the date of enactment.

The Act defines excessive bonus to mean the portion of the applicable bonus payments made to a covered individual in excess of $100,000. The Act defines applicable bonus payment to mean any bonus payment to a covered individual that is paid by reason of services performed by such individual in a taxable year of the financial institution ending in 2008, and the amount of which was first communicated to such individual during the period beginning on January 1, 2008, and ending January 31, 2009, or was based on a resolution of the board that was adopted before the end of such taxable year.

In determining whether there was an applicable bonus payment paid by reason of services performed in the taxable year ending in 2008, a bonus payment that relating to services performed in any taxable year before the 2008 taxable year, and that is contingent on the performance of services in the taxable year, must be disregarded. Similarly, any condition on a bonus payment for services performed in the 2008 taxable year that the employee performs services in taxable years after the taxable year must be disregarded.

The Act defines bonus payment to mean any payment that is a discretionary payment to a covered individual for services rendered in addition to any amount payable to such individual for services performed at a regular hourly, daily, weekly, monthly, or similar periodic rate, and that is paid in cash or other property other than stock in the TARP company or an interest in a troubled asset held directly or indirectly by the TARP recipient. Bonus payment does not include a payment to an employee as a commissions, fringe benefits, or expense reimbursements.

The term covered individual means, with respect to any financial institution, any director or officer or other employee of such financial institution or of any member of a controlled group of corporations (within the meaning of section 52(a) of the Internal Revenue Code of 1986) that includes such financial institution.

The bill amends the Internal Revenue Code to impose an excise tax on TARP companies that fail to redeem securities from the United States. The bill adds a new section to Chapter 46 of the Internal Revenue Code. New Section 4999A imposes a tax on any financial institution which is required to redeem an amount of its preferred stock from the United States pursuant to section 1903(a) of the American Recovery and Reinvestment Tax Act of 2009, and fails to redeem all or any portion of such amount within the period prescribed for such redemption. The amount of the tax imposed by must be equal to 35 percent of the amount which the financial institution failed to redeem within the time prescribed under 1903(b) of the American Recovery and Reinvestment Tax Act of 2009.

Luxury Expenditures

The board of directors of any TARP recipient must implement a company-wide policy regarding excessive or luxury expenditures, as identified by Treasury, which may include excessive expenditures on entertainment or events; office and facility renovations; aviation or other transportation services; or other activities or events that are not reasonable expenditures for conferences, staff development, reasonable performance incentives, or other similar measures conducted in the normal course of business operations.