In March 2023, Deputy Attorney General Lisa Monaco and Assistant Attorney General Kenneth Polite of the Criminal Division announced a three-year Pilot Program on Compensation Incentives and Clawbacks. A group of Covington attorneys recently published an article with Bloomberg that offers practical guidance for companies looking to stay ahead of the curve on the
Executive Compensation (US)
Executive Compensation Implications of SEC’s Final Rule on Clawback Policies
On October 26, 2022, the Securities and Exchange Commission (the “SEC”) adopted a long-awaited rule that will require listed companies to adopt and publicly file so-called “clawback” policies. As we discuss in more detail in this alert, the rule requires listed companies to adopt clawback policies to recover, reasonably promptly, incentive-based compensation that proves…
SEC Adopts “Pay Versus Performance” Disclosure Rule
On August 25, 2022, the United States Securities and Exchange Commission adopted a final rule requiring new disclosures for public companies regarding the relationship between executive compensation and company performance. Among other things, companies are now required to develop a new table that discloses multi-year compensation data side-by-side with prescribed financial performance metrics and a…
Final Regulations Under § 4960 Provide Helpful Exceptions for Employees of Related Organizations
Effective for taxable years beginning after December 31, 2017, section 4960 of the Internal Revenue Code imposes a tax at the corporate income tax rate (currently 21 percent) on two types of compensation paid by applicable tax-exempt organizations (ATEOs) to their covered employees. An ATEO’s covered employees generally include its five highest paid…
IRS Proposes Sweeping § 162(m) Regulations
Earlier this week, the IRS issued long-awaited proposed regulations under Section 162(m) of the Internal Revenue Code. Our colleagues at Covington’s Tax Reporting & Withholding Blog published a comprehensive summary and analysis of the proposed regulations. As you will see, the proposed regulations fell short of proposing workable solutions for public companies wrestling with the…
New § 4960 of the Internal Revenue Code Imposes an Excise Tax on Compensation Paid to the Top Five Employees of Tax-Exempt Organizations
As part of the Tax Cuts and Jobs Act of 2017, Congress enacted new § 4960 of the Internal Revenue Code. Section 4960 imposes an excise tax on certain executive compensation paid by tax-exempt organizations – similar to the $1 million limit on deductions for compensation paid to highly paid executives in for-profit companies under § 162(m) of the Code and to the golden parachute rules of § 280G of the Code. The new provision could have a significant impact on some tax-exempt organizations, but it lacks important detail and leaves many questions unanswered. The excise tax provision is in addition to other rules applicable to reasonable compensation paid to employees of tax-exempt organizations.
The statute directs the Secretary of the Treasury to prescribe regulations under § 4960 “as may be necessary to prevent avoidance of the tax under this section, including regulations to prevent avoidance of such tax through the performance of services other than as an employee or by providing compensation through a pass-through or other entity to avoid such tax.” No regulations or other IRS guidance have been issued under § 4960 thus far.
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Incentive Plans and Shareholder Approval After Tax Reform
This article originally appeared in Law360.
Companies have had a lot to digest since the passage of the Tax Cuts and Jobs Act (the “TJCA”) late last year. But for executive compensation attorneys and professionals who work with or advise public companies, the elimination of the tax deduction for performance-based compensation under section 162(m) of the Internal Revenue Code was perhaps the most significant change brought about by tax reform. Since then, the changes to section 162(m) have been top of mind for everyone involved with structuring executive compensation arrangements and strategies at public companies.
Among the many questions companies face following the changes to section 162(m) is whether to continue seeking periodic shareholder approval for the performance criteria under their incentive plans. Before tax reform, companies were generally able to deduct performance-based compensation if, among other things, the performance criteria used in the arrangement were approved by shareholder vote at least once every five years. The repeal of the performance-based compensation exception eliminated this requirement. However, there may be other reasons why companies might opt to continue seeking shareholder approval, even if it will no longer allow the compensation to be deductible.
We researched what large public companies decided to do this year with regard to shareholder approval of their performance criteria by reviewing the most recent proxy statements filed by S&P 100 companies. We discovered that most companies that under pre-TJCA law would have been scheduled to seek shareholder approval for their performance criteria (because they had previously done so five years ago) elected not to do so this year. Although a limited data set, these findings may be instructive for other public companies who are considering how to approach this matter in future years.…
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83(i) Elections: New Deferral Provision Aims to Ease Tax Burden on Employees Receiving Equity in Private Companies
Part of Our Series on the Tax Cuts and Jobs Act of 2017
When an employee exercises a stock option or receives shares of stock from the settlement of a restricted stock unit (or “RSU”), generally the employee has income based on the value of the stock received. Income tax and Social Security and Medicare (“FICA”) taxes are due, and the employer must withhold and report these taxes.
Employees of publicly traded companies usually can sell shares in the public market to cover the cost of their taxes. However, there is typically no market for shares of privately held companies, such as start-ups. As a result, employees receiving shares of a private company through a stock option exercise or RSU settlement usually must come up with the cash to pay the IRS.
The Tax Cuts and Jobs Act of 2017 (the “Act”) adds a new section 83(i) to the Code that allows certain employees of private corporations that broadly grant stock options or RSUs to elect to defer income tax for up to five years. This is referred to as an “83(i) election”.
Section 83(i) was billed as a way to make it easier for employees of start-ups and other private companies to share in their employers’ success. However, as we explore in this post, the benefits of an 83(i) election may be limited. As discussed in more detail below, private employers face a number of questions about how they can — and whether they will want to — offer an equity program that is eligible under section 83(i).…
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Significant Reductions to Deductible Pay at Public Companies
Part of Our Series on the Tax Cuts and Jobs Act of 2017
Employers generally may deduct reasonable salaries and other compensation paid to their employees. However, section 162(m) of the Internal Revenue Code imposes a $1 million annual limit on the amount of compensation that a publicly held corporation can deduct with respect to each of its “covered employees.”
The Tax Cuts and Jobs Act of 2017 substantially revises section 162(m) in ways that will significantly limit the amount of compensation that many public companies will be able to deduct.…
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Learning to Live with Clawbacks: The New, Long String on Executive Compensation
Existing rules in Europe require, and proposed rules in the U.S. would require, companies and financial institutions to have in place effective clawback policies. Under such policies, employers have the ability to recover compensation paid to employees when certain events occur or information comes to light that could have an adverse effect on the employer. The aim, of course, is to create a direct link between reward and conduct so as to promote good corporate behavior and ensure effective risk management.
Clawback provisions have been around for a number of years and they are now a fairly well-known feature in a variety of different bonus and equity incentive programs. They often complement other measures that employers can deploy to address adverse events and circumstances, the most common of which is the ability to forfeit or downward adjust unvested compensation. With executive scrutiny and accountability on the rise, the significance of these policies and their effectiveness will undoubtedly be put to the test. This article looks briefly at the legal and practical challenges companies face at each stage of a clawback policy – from design and implementation to operation and enforcement.…
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