Executive compensation

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Congressional oversight and lawmaking

House oversight hearing September 25, 2010

On Friday, the House Financial Services Committee held a hearing entitled "Executive Compensation Oversight after the Dodd-Frank Wall Street Reform and Consumer Protection Act". Committee Chairman Barney Frank (D-MA) began the hearing by arguing that incentive compensation in the financial sector prior to the financial crisis was not rationally set but instead encouraged imprudent risk-taking. Rep. Frank stated that incentive compensation should be structured such that employees are "not incentivized to take risk excessively." Ranking Member Spencer Bachus (R-AL) followed by noting that the regulators faced a difficult task in setting rules governing executive compensation. In a brief two-hour hearing, the panelists uniformly stated the need for rules restricting incentive structures which reward imprudent risk, but few details on what such rules would look like were offered by the regulators.

Provisions of the Dodd-Frank Act

On July 21, 2010, President Obama signed into law the Dodd-Frank Wall Street Reform and Consumer Protection Act (H.R. 4173) (the "Act"), which is intended "to promote the financial stability of the United States by improving accountability and transparency in the financial system" and "to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices, and for other purposes." While the Act is directed at the financial system, it incorporates broad executive compensation provisions that apply beyond the financial services industry. Publicly-traded companies need to understand and prepare for these new requirements. Included in Subtitle E of Title IX – Accountability and Executive Compensation ("Subtitle E") – of the Act are laws generally related to executive compensation practices of publicly-traded companies and certain financial institutions. The laws enacted under Subtitle E amend the Securities Act of 1933 and Securities Exchange Act of 1934 (the "Exchange Act"), and also direct the Securities Exchange Commission (SEC) and certain other Federal Regulators to adopt rules consistent with the new law.

The following is a summary of the rules in Subtitle E of the Act relating to executive compensation.

Shareholder Approval of Executive Compensation

Regular Approval of Executive Compensation: Commonly known as say-on-pay, this rule allows shareholders a non-binding vote on the compensation paid to named executive officers.

Effective Date: The proxy statement (or consent or authorization) for the first annual or other shareholder meeting occurring after January 21, 2011 must include the say-on-pay proposals.

In other words, companies that utilize the calendar year for disclosure purposes will be required to include such say-on-pay proposals in their 2011 annual meeting proxy statements.

Resolutions: Such proxy materials must include a separate resolution providing shareholders a vote on: (i) the non-binding opportunity to approve the compensation paid to named executive officers; and (ii) the frequency of voting on executive compensation.

Frequency: Shareholders must decide at their first meeting occurring after January 21, 2011, how often to conduct such non-binding say-on-pay votes (i.e., every year, every other year, or every third year). The shareholders' decision on the frequency of such say-on-pay votes is likewise non-binding. However, companies must allow their shareholders to vote on executive compensation at least every three years and determine how often to conduct such voting every six years.

Considerations: To date, shareholders generally have been provided only an "up or down" vote with regard to the overall pay packages of named executive officers. It will be interesting if the regulations ultimately adopted by the SEC will allow companies to present to shareholders the ability to vote on each element of named executive officers' compensation.

The U.K. implemented a similar law in 2002. At the time, it was thought that such say-on-pay votes would curb (or "kerb" as they say across the pond) executive pay, but there are conflicting opinions as to whether the law has had such an impact.

Shareholder Approval of Golden Parachute Compensation: Shareholders are allowed a non-binding vote on compensation paid to named executive officers in connection with an acquisition, merger consolidation, or proposed sale or other disposition of all or substantially all of the assets of the company (the "Corporate Transaction") that was not previously disclosed and voted upon.

Effective Date: This new law applies to any proxy, consent or authorization for an annual or other shareholder meeting occurring after January 21, 2011, at which the shareholders are asked to approve the Corporate Transaction.

Disclosure: The rules will apply to any compensation arrangement or understanding (whether present, deferred, or contingent), between a named executive officer and the company or successor/acquiring company, based on the Corporate Transaction. The disclosure must set forth the aggregate total of all applicable compensation (and any related conditions) that may be paid to the named executive officer. The disclosure must have a separate resolution relating to the applicable compensation upon which shareholders will vote.

Effect of Rule: As indicated above, the shareholders' vote on executive officer compensation is non-binding on the company's board of directors. Irrespective of the shareholders' vote, the board retains full authority to make decisions regarding executive compensation and no additional fiduciary obligations are to be imposed upon the board as a result of the shareholders' vote. It is also important to note that this new rule in no way restricts or limits shareholders from making additional proposals related to executive compensation.

Disclosure of Voting by Institution Investment Managers: Every institutional investment manager that is subject to section 13(f) of the Exchange Act must report at least annually how it voted on executive compensation, whether through the regular process or in connection with a Corporate Transaction.

Exemption: In its authority to establish rules consistent with this section of the Act, the SEC will allow a national securities exchange/association to exempt a category of companies from the above requirements, taking into account the impact of such requirements on smaller companies.

Compensation Committee Independence

Independence of Compensation Committee Members: Board members serving on the compensation committee of a publicly-traded company must meet heightened standards of independence that are to be imposed by the national securities exchanges/associations (e.g., NYSE, NASDAQ) pursuant to new rules to be established by the SEC.

Independence: In defining "independence," the SEC must take into consideration: (i) the source of compensation provided by the company to any member of the board, including consulting, advisory or any other compensatory fee; and (ii) whether a member of the board is affiliated with the company, any subsidiary of the company, or an affiliate of any subsidiary of the company.

Exemptions: The SEC has the latitude to adopt rules that will permit an exemption for certain companies, taking into consideration a company's size or other relevant factors.

Independence of Compensation Committee Advisers: When selecting compensation consultants, legal counsel or other advisers (collectively, "Advisers"), the compensation committee must consider factors that can affect their Advisers' independence.

Independence: The SEC will identify factors that affect the independent nature of the Advisers, including:

  1. other services that the Advisers' employer provides to the company;
  2. the amount of fees, as a percentage of total revenue, that the Advisers' employer receives from the company;
  3. conflict of interest policies and procedures that the Advisers' employer has adopted;
  4. any business or personal relationship that the Advisers have with a Committee member; and
  5. company stock that the Advisers own.

Considerations: Compensation committees of most large publicly-traded companies have independent Advisers. However, with the consolidation of large human resources consultants, it may become increasingly difficult to find a large, independent advisor. In light of the new rules, compensation committees and companies will need to reexamine the "independence" of their Advisers.

Compensation Committee Authority to Retain Advisers: Compensation committees must have absolute discretion to retain or obtain advice from the Advisers and will be directly responsible for the appointment, compensation and oversight of such Advisers. However, the Committee is not bound by the advice nor recommendations received from the Advisers and retains complete discretion to exercise its own judgment in fulfillment of its duties.

Disclosure: Each company must disclose in its proxy or consent solicitation materials for an annual or special shareholder meeting occurring on or after July 21, 2011: (i) whether the compensation committee retained or obtained the advice of an Adviser who is a compensation consultant; and (ii) whether the compensation consultant's work has raised any conflict of interest, the nature of the conflict and how the conflict is being addressed.

Funding: Companies must provide funding for the compensation committee to retain Advisers.


SEC Discretion: In its authority to establish rules consistent with this section of the Act, the SEC will allow national securities exchanges/associations to exempt a category of companies from the above requirements, taking into account the impact of such requirements on smaller companies.

Controlled Companies: Controlled companies, which are listed on national securities exchanges/associations and in which majority voting power is held by an individual, a group or another issuer, will be exempt from these rules. Penalties: The penalty for noncompliance with the above rules is delisting from national securities exchanges/associations.

The SEC rules will provide a noncompliant company the opportunity to cure defects prior to a company's delisting. Executive Compensation Disclosures

Pay versus Performance: The SEC will establish rules that will require companies to disclose as required under section 402 of Regulation S-K (the description of executive compensation generally reported in the proxy or Form 10-K) the relationship between compensation actually paid to named executive officers and the company's financial performance. This required disclosure may include a graphic representation of the information required to be provided.

Financial Performance: Financial performance takes into account any change in stock value and dividends, and any distributions. Additional Disclosure: The SEC executive compensation disclosure rules will require that companies disclose the following:

The median of the annual total compensation of all employees of a company (Total compensation of an employee will be determined in accordance with the determination of a named executive officer's total compensation, as is currently required to be reported in column (j) of the company's summary compensation table.), except the CEO;

  • The annual total compensation of the company's CEO; and
  • The ratio of the amount in #1 above to the amount in #2 above.

Recovery of Erroneously Awarded Compensation

Recoupment/Clawback: The SEC will establish rules that will require companies to develop, implement and disclose a policy relating to the recoupment of certain incentive-based compensation, if: (i) the incentive-based compensation is based on performance criteria of reported financials; and (ii) the company restates its financials due to material noncompliance with financial reporting requirements.

Application: The recoupment policy must apply to both current and former executive officers of the company who received the incentive-based compensation at issue.

Limits: Only excess compensation is to be recouped. In other words, executive officers will not be required to return the portion of incentive compensation they would have earned had the financials been originally reported correctly.

Timing: Companies are required to recoup excess incentive-based compensation in the three-year period prior to the date the company is required to prepare the financial restatement, not three years prior to the filing date.

Penalties: The penalty for noncompliance with the above rules is delisting from national securities exchanges/associations.

Disclosure Regarding Employee and Director Hedging: The SEC will establish rules that will require companies to disclose in its proxy or consent for an annual shareholder meeting whether any employee or board member, or designee of any employee or board member, is permitted to purchase financial instruments that are designed to hedge or offset any decrease in the market value of equity securities.

Limit: The equity securities at issue must have been either: (i) granted as compensation to the employee or board member by the company; or (ii) held directly or indirectly by the employee or board member.

Note: The law is not limited to executive officers of a company, but extends to all employees of a company. Enhanced Compensation Structure Reporting

Disclosure and Reporting of Compensation: Not later than April 21, 2011, Federal Regulators (defined below) will prescribe regulations or guidelines requiring a covered financial institution (defined below) to disclose to the appropriate Federal Regulator the structure of all incentive-based compensation arrangements, such that the Federal Regulator can determine whether such compensation arrangements: (i) provide an executive officer, employee, director, or principal shareholder of the institution with excessive compensation, fees or benefits; or (ii) could lead to a material financial loss to the institution.

Prohibition of Certain Compensation Arrangements: Not later than April 21, 2011, Federal Regulators will prescribe regulations or guidelines that prohibit incentive-based compensation arrangements or features that the Federal Regulators determine encourage inappropriate risks by covered financial institutions:

  1. by providing an executive officer, employee, director, or principal shareholder of the institution with excessive compensation, fees or benefits; or
  2. that could lead to a material financial loss to the institution.

Standards: The appropriate Federal Regulators will ensure that the standards for the above rules are comparable to standards under, and take into consideration compensation standards described in, the Federal Deposit Insurance Act.

Enforcement: The law and rules will be enforced under section 505 of the Gramm-Leach-Bliley Act.


"Federal Regulators" means the Board of Governors of the Federal Reserve System, the Office of the Comptroller of the Currency, the Board of Directors of the FDIC, the Director of the Office of Thrift Supervision, the National Credit Union Administration Board, the SEC and the Federal Housing Finance Agency.

"Covered Financial Institution" means a depository institution or depository institution holding company, a registered broker dealer, a credit union, an investment advisor, the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation, and any other financial institution that the Federal Regulators deem a covered financial institution. However, any "covered financial institution" with less than $1 billion in assets will be exempt.

Voting by Brokers: The Exchange Act rules are amended to allow only beneficial owners to grant a proxy to vote securities on matters relating to the election of members of a board, executive compensation, or any other significant matter (as the SEC determines). If a beneficial owner grants a proxy to vote, then the beneficial owner must provide voting instructions.

Checklist for Compliance with Material Provisions of the Act

Shareholder Meeting

- Determine in which proxy or other solicitation document you will need to include the Say-on-Pay and Pay versus Performance resolutions.


- Prepare resolution for shareholder vote on the approval of executive compensation.

- Prepare resolution for shareholder vote on the frequency of voting on executive compensation.

- Determine if you will have a Corporate Transaction that is subject to shareholder vote.

- If yes, determine whether shareholders have previously approved any applicable executive compensation.

- If there is applicable executive compensation not previously disclosed, prepare resolution for shareholder vote on the executive compensation related to the Corporate Transaction that shareholders have not previously voted upon.

Pay versus Performance

- Prepare disclosure of executive compensation in relation to your financial performance.

- Determine whether a graphic representation should be included.

Comparative Pay

- Determine the median of the annual total compensation of all employees of the company, except for the CEO.

- Determine the annual total compensation of the CEO.

- Determine the ratio by dividing the median pay by the CEO pay.


- Prepare a recoupment policy consistent with the SEC regulations.

- Disclose the recoupment policy after adoption.

- Ensuremplementation of recoupment policy after adoption.

Compensation Committee Independence

- Reexamine the independence of your Compensation Committee members.

- Establish a policy for Compensation Committee engagement of advisers.

- Prepare an audit checklist for existing or potential advisers to the Compensation Committee for independence.

- Audit existing or potential advisers to the Compensation Committee for independence.

- Disclose required information regarding Compensation Committee Advisors in proxy or solicitation materials.

Employee and Director Hedging

- Establish a policy regarding employee and director hedging (this is not required but recommended.)

- Audit directors and employees regarding hedging activities.

Senate March draft provisions

Bonus tax unlikely to get Senate vote

The U.S. Senate is unlikely to vote on a measure that would impose a 50 percent tax on bonuses awarded last year to executives of Wall Street firms bailed out by the government, a top Democrat said.

Senate Finance Committee Chairman Max Baucus said yesterday that, while he couldn’t rule out the possibility that the tax proposal would be voted on as an amendment to a jobs bill, the “chances are low” because of opposition from lawmakers in both parties.

“Some Republicans don’t want it; some Democrats don’t want it,” Baucus, a Montana Democrat, said in an interview.

Asked what he thought of the amendment, he said “it’s a jobs bill” and “we can’t solve all the world’s problems with one bill.”

Jessica Smith, a spokeswoman for Democratic Senator Jim Webb of Virginia, a sponsor of the tax proposal, agreed that a vote is “not looking likely.”

Under Senate practice, lawmakers from the two parties negotiate which proposed amendments to a pending bill will be allowed floor votes and which will be dropped. Webb and Senator Barbara Boxer, a California Democrat, have been pushing the amendment that would tax the portion of bonuses topping $400,000 given to executives at banks that received at least $5 billion from the Treasury Department’s Troubled Asset Relief Program.

The effort by the two senators sparked a last-minute lobbying campaign by the U.S. Chamber of Commerce, the Financial Services Roundtable and other groups opposing the plan. The Chamber of Commerce, in urging lawmakers to reject the idea, said in a letter it “would likely hamper efforts to resolve the ongoing financial crisis, restore economic growth, spur job creation and is likely unconstitutional.”

The $150 billion jobs measure the Senate is debating would extend unemployment benefits through the end of this year, provide state governments with $25 billion in aid, extend a package of miscellaneous tax cuts and postpone scheduled cuts in Medicare reimbursements to doctors. Democrats said they aim to complete work on the bill by early next week.

House Financial Services Committee hearing Feb 25

2:00 p.m., Thursday, February 25, 2010, 2128 Rayburn House Office Building

Click here to watch live webcast of this hearing.

Witness List & Prepared Testimony:

  • Mr. Kenneth Feinberg, Special Master for TARP Executive Compensation, U.S. Department of the Treasury (Testimony)
  • Mr. Scott Alvarez, General Counsel, Board of Governors of the Federal Reserve System (Testimony)
  • Mr. Edward DeMarco, Acting Director, Federal Housing Finance Agency (Testimony)

House Financial Services Committee hearing Jan 22

Washington, DC – House Financial Services Committee Chairman Barney Frank (D-MA) today announced that the committee will hold a hearing tomorrow, January 22, on compensation in the financial industry.

  • Who: House Financial Services Committee
  • What: Hearing: “Compensation in the Financial Industry”
  • When: Friday, January 22, 10:00 a.m.
  • Where: Room 2128, Rayburn House Office Building

Click here to view archived webcast.

Witness List:

  • Mr. Lucian Bebchuk, Professor of Law, Economics, and Finance, and Director of the Program on Corporate Governance, Harvard Law School (Testimony)
  • Ms. Nell Minow, Editor and Founder, The Corporate Library (Testimony)
  • Mr. Joseph Stiglitz, University Professor, Columbia Business School (Testimony)

H.R. 3269 referred to the Senate

H.R. 3269: Corporate and Financial Institution Compensation Fairness Act of 2009 Govtrack.us link

Source: Imperfect Politics of Pay New York Times, August 8, 2009

"THE executive compensation bill that the House passed just before the August recess was advertised as the first in a series of government safeguards to prevent risky, me-first maneuverings around executive pay in corporate America. It’s supposed to correct wrongheaded structures that generated untold millions for aggressive managers and monster losses for unwitting taxpayers.

But an examination of the bill’s fine print raises questions about whether it will, if supported by the Senate and then enacted, have the desired effect.

Recall that Washington’s past attempts to rein in executive pay have not been stellar. The Clinton-era restrictions — which removed the tax deductibility on executive salaries over $1 million — served only to fuel pay bonanzas based on stock options.

This time around, lawmakers say they want to do two things: encourage shareholder participation in how pay packages are structured and awarded at their companies and enlist regulators to reduce risky compensation incentives. The first idea is admirable; the second, not so much.

Getting shareholders more involved in compensation arrangements is surely an idea whose time has come; indeed, institutional investors report that more dialogues between companies and their owners are occurring every day.

But elements in the House bill meant to further this progress are surprisingly weak. Consider the requirement stating that some institutional investors’ votes on comprehensive pay packages — so-called say-on-pay proposals — would have to be disclosed each year.

Disclosure of how big investors vote is important, of course, given that so many small investors hand over their proxies to mutual fund companies. But why limit disclosure to say-on-pay votes?

“Shouldn’t the focus be on disclosure of actual votes on any and all compensation proposals?” asks Brian Foley, an independent compensation consultant in White Plains. That would include disclosures on how institutions voted on new or existing annual bonus plans, new stock award and long-term incentive programs, and additional share authorizations for stock plans.

For that matter, Mr. Foley wonders, why not require regular disclosures on votes related to the election of directors who serve on the company’s compensation committee?"

Boxer, Webb target Wall Street bonuses

Sens. Barbara Boxer (D-Calif.) and Jim Webb (D-Va.) unveiled a bill Thursday to tax extravagant bonuses paid out by financial firms that have benefited from taxpayer assistance.

The Taxpayer Fairness Act would apply only to Wall Street firms and banks that received at least $5 billion from the 2008 Troubled Asset Relief Program (TARP). Specifically, it would impose a 50 percent excise tax on any 2009 bonuses paid to employees at those firms that received a salary greater than $400,000. The tax would apply to the portion of the bonus that exceeds that figure — which Boxer and Webb picked because it matches President Barack Obama’s salary. Employees’ base pay would be unaffected.

“There is an outcry out there,” said Boxer. “People are hurting from the residual effects of Wall Street … This bill is symbolic, but it’s real.”

Boxer estimated that up to $10 billion could be generated from the bill, which would be dedicated to reducing the federal deficit. She emphasized that TARP assistance was only a portion of the assistance that the major financial firms received, along with asset guarantees and low-interest loans.

The bill’s future is uncertain. Boxer said she had not run the bill by the White House but hoped to attract co-sponsors soon, and Webb said he was hopeful but unsure of GOP support. He noted, however, that the “inspiration” for the bill came from an editorial he saw in the Financial Times last year.

Boxer unveiled statistics that showed the seven major TARP recepient firms received $31 billion in total bonuses, with 4,675 employees receiving bonuses exceeding $1 million. Bonuses paid this year are expected to be even larger — total compensation at the same seven firms has jumped by $14 billion this year, with much of the amount going toward bonuses.

According to Boxer and Webb, there are 13 firms that would fall under their proposed tax because they received at least $5 billion in TARP money: American International Group (AIG), Bank of America, Citigroup, Fannie Mae, Freddie Mac, General Motors, GMAC, Goldman Sachs, JP Morgan, Morgan Stanley, PNC Financial, Wells Fargo and U.S. Bancorp.

Webb took pains to emphasize that the bill does not represent any attempt at “class warfare.”

“When we were on the verge of an economic calamity, we had to put $700 billion in taxes on people out there who were doing regular jobs,” he said. “Somewhere out there there’s a nurse working in a hospital, there’s a Marine serving in Afghanistan, there’s a guy driving a truck, and they had to dig into their pockets and pay the taxes to bail out these companies.

“And all we’re saying is, on a one-shot deal, in the year these monies were recuperated, for bonuses over $400,000 — in addition to the regular compensation — they should share the benefit of that bonus with the taxpayers who bailed them out.”

Senator Brown to introduce "bonus tax" legislation

Sen. Sherrod Brown (D-Ohio) on Thursday became the latest lawmaker to push for a new tax on Wall Street bonuses.

Brown wants to impose a 50 percent tax on executive bonuses at firms that received aid under the $700 billion financial bailout package. Brown's legislation would use the revenue to support loans from the Small Business Administration (SBA).

“It’s time for Wall Street to return the favor to Main Street,” Brown said.

Brown's bill comes on the heels of several similar efforts in the last two weeks as Wall Street pays out major bonuses to employees at firms that received bailout money. The House passed a bill in 2009 to tax bonuses at firms that were bailed out, but the Senate never approved a comparable bill.

House passes restrictions on Wall Street pay

Source: House votes to restrict Wall Street pay AP, July 31, 2009

"The House voted today to slap restrictions on how Wall Street executives are paid after nine banks that took government aid rewarded thousands of their employees with bonuses topping $1 million each.

Bowing to populist anger and defying President Barack Obama's suggestion that government rely on incentives instead of intervention to curb excessive salaries and bonuses, the House passed the bill on a 237-185 vote.

"This is not the government taking over the corporate sector. . . . It is a statement by the American people that it is time for us to straighten up the ship," said Rep. Melvin Watt, D-N.C.

The vote advances the first piece of Obama's broader proposal to increase oversight of financial institutions. The Senate was expected to take up the package after Congress returns in September from its summer recess.

The House bill includes Obama's suggestions of giving shareholders a nonbinding vote on compensation packages and prohibiting directors on compensation committees from having a financial relationship with the company and its executives.

The bill goes farther than Obama wanted by prohibiting pay incentives that encourage employees to take financial risks that could threaten the economy or viability of the institution.

Obama said giving shareholders a "say on pay" and diminishing management influence on pay packages would go far in curbing the lavish pay seen at some banks.

But Rep. Barney Frank, D-Mass., who sponsored the bill, said the extra regulation is necessary to ensure bankers and traders aren't rewarded only if they take big risks. Under the provision banning risky incentive-based pay, regulators would be given nine months to dictate precise guidelines.

House to consider H.R. 3269

On July 31, 2009 the House of Representatives will consider H.R. 3269, the Corporate and Financial Institution Compensation Fairness Act of 2009. The bill would rein in executive compensation practices that led to excessive, reckless risk-taking and contributed to the recent financial collapse. An updated version of the bill can be viewed here. A summary of the bill can be viewed here.

Specifically, H.R. 3269 would give shareholders a “say on pay” for top executives and ensure that they have a nonbinding, advisory vote on their company’s pay practices. The bill would also require federal regulators to proscribe any inappropriate or imprudently risky compensation practices as part of solvency regulation of all financial institutions. In addition, financial firms would be required to disclose any compensation structures that include incentive-based elements.

The House Financial Services Committee approved the measure earlier this week by a vote of 40-28.

  • Source: House Financial Services Committee

The House also approved the following amendment to H.R. 3269:

  • Manager’s Amendment (Rep. Frank (D-MA): would strike language prohibiting clawbacks of executive compensation approved by shareholders and insert language prohibiting rules from allowing financial regulators to require recovery of incentive-based pay under arrangements in effect on the date of enactment.

Today’s legislation comes in response to a broad consensus of leading finance experts, including Paul Volcker and the Group of 30 and Lord Adair Turner of the United Kingdom’s Financial Services Authority, who believe that compensation structures were a factor in the financial crisis. Both the United Kingdom and the European Union are contemplating similar rules.

House Financial Services Committee approves H.R. 3269

Source: Panel Approves Executive Pay Limits New York Times, July 28, 2009

"In an important victory for the White House, a Congressional committee approved legislation on Tuesday that closely resembled an Obama administration proposal seeking to impose new restraints on executive pay.

The approval by the House Financial Services Committee, on a party-line vote of 40 to 28, clears the way for the measure to be considered by the full House later this week, when it is likely to be adopted.

The bill does not set pay limits. Instead, it gives shareholders the right to vote on pay and requires that independent directors from outside of management serve on compensation committees.

The shareholder votes would not be binding on company management.

The measure tries to reduce the potential conflicts of interest involving compensation consultants who play a central role in blessing pay packages. Many of those consultants also provide other services to the companies, putting them in a conflicting role for issuing fairness opinions about pay.

The measure also gives regulators the authority to prohibit inappropriate or risky compensation practices for banks and other regulated financial institutions.

The Senate is not expected to consider the legislation until this fall, at the earliest...

...But the Democrats led by Mr. Frank also agreed to some modest changes in the legislation to reduce its scope. They agreed to give the Securities and Exchange Commission the authority to exempt smaller companies from shareholder votes on pay. And they reduced the authority of regulators by giving them power to restrict only incentive-based pay arrangements instead of any kind of compensation.

The panel adopted an amendment proposed by Representative Mary Jo Kilroy, Democrat of Ohio, to require large institutional investors to reveal how they vote the shares that they own on pay proposals affecting companies that issued those shares."

Chairman Frank announces markup of H.R. 3269

Rep. Barney Frank (D-MA), Chairman of the House Financial Services Committee, announced that the committee will meet on Tuesday, July 28, to mark up H.R. 3269, the Corporate and Financial Institution Compensation Fairness Act of 2009.

"A senior House Democrat wants to toughen President Barack Obama's new restrictions on Wall Street pay by banning salaries and bonuses that encourage what the government considers "inappropriate risk."

The proposal by Rep. Barney Frank, D-Mass., which will be considered Tuesday by the House Financial Services Committee, would give the government unprecedented power in how financial executives are rewarded.

Obama has shied away from such direct intervention, even as administration officials argued that excessive compensation in the private sector contributed to the financial crisis.

"If the risk pays off, you make money," Frank said at a National Press Club luncheon Monday. "And if the risk doesn't, you suffer no penalties. Heads you win, tails you break even. It's like selling lottery tickets that only cost you money if they pay off."

Interview and discussion with the Financial Services Committee Chairman, Rep. Barney Frank. He says executive pay will probably come down in bad times if bill passes.

Special Master testifies to House Oversight Committee

"...In your letter of October 15, 2009, inviting me to testify, you raised three questions for me to focus on during my appearance here today. I treat these questions in the order you presented them in your letter.

I. What standards and considerations are you using to evaluate employee compensation at the seven companies that submitted such plans for review?

I was guided by the rules and principles in the statute and the Treasury regulations in evaluating employee compensation at the seven companies. For example, the Treasury regulations expressly make clear that I must consider competitive market forces in determining compensation levels that will permit the seven companies to remain in business, to thrive financially, and to eventually repay the taxpayers for TARP financial assistance. These companies must be able to attract sufficient talent to prosper. At the same time, however, the law requires me to take into account whether the terms and conditions of compensation are performance-based and tie compensation to the companies' prospective performance and financial success. In addition, the regulations make clear that my compensation determinations should be made in such a way that considers whether senior executives are provided incentives to avoid taking excessive risks to receive greater amounts of compensation. The law also anticipates that a portion of compensation be tied to the repayment of TARP financial assistance, and requires companies to "claw back" incentive compensation that is based upon inaccurate financial statements or performance metrics.

In sum, the standards and considerations I used in evaluating employee compensation at the seven companies can be found in the statute and the accompanying Treasury regulations: in these laws, Congress and the Treasury provided me the guidance needed to make my final determinations. Based on this guidance, I determined that a new compensation regimen should be implemented at these seven companies: guaranteed compensation is to be replaced by performance-based compensation designed to tie individual executives' financial opportunities to the long term overall financial success of each Company. Short-term profits must give way to longer-term financial stability and success.

II. What specific proposals have been received from the seven companies and what specific actions have you taken with respect to those proposals?

Mr. Chairman, I refer you and the Members of the Committee to my Report (attached) which details the individual submissions made by each of the seven companies, and also describes in comprehensive fashion my response to each of these submissions. The general conclusions I reached after careful evaluation and analysis of the submissions were the same for six of the seven companies--I concluded, pursuant to the statute and the Treasury regulations, that each submission would result in payments contrary to the "Public Interest Standard," and should, therefore, be rejected. The "Public Interest Standard" is the term I used in my Report to describe the regulatory standards that I am required to apply in making determinations. Instead, as my Report spells out, I made important revisions to the submissions as a precondition to approving compensation structures and payments for each individual covered executive at these six TARP recipients. (Chrysler Financial has unique circumstances, and I determined that its proposal was appropriate in light of them."

House Reform Committee hearing on Cuomo Report

The House will hold a hearing in September to review executive pay regulations for banks and other companies bailed out by the government in the wake of a report that those institutions paid billions in 2008 bonuses.

The report, from New York Attorney General Andrew Cuomo's office, found that two bailed-out institutions, Citigroup and Merrill Lynch, suffered about $27 billion in combined losses last year but still paid out nearly $9 billion in bonuses. The two companies received $55 billion in money through the Troubled Asset Relief Program, according to the report.

Nine banks that received government aid money paid out bonuses of nearly $33 billion last year -- including more than $1 million apiece to nearly 5,000 employees -- despite huge losses that plunged the U.S. into economic turmoil.

The data, released Thursday by New York Attorney General Andrew Cuomo, provide a rare window into the pay culture of Wall Street, where top employees typically make 90% or more of their compensation in year-end bonuses.

The $32.6 billion in bonuses is one-third larger than California's budget deficit. Six of the nine banks paid out more in bonuses than they received in profit. One in every 270 employees at the banks received more than $1 million.

Overall compensation and benefits at the nine banks fell 11%, to $133.5 billion in 2008 from $149.3 billion in 2007, the Cuomo report said. But with net revenues falling, the percentage of the firms' revenues dedicated to compensation rose to 45% last year from 41% in 2007.

The report reignites long-simmering anger, on Capitol Hill and beyond, over big Wall Street payouts. The nine firms in the report had combined 2008 losses of nearly $100 billion. That helped push the financial system to the brink, leading the government to inject $175 billion into the firms through its Troubled Asset Relief Program.

The chairman of the U.S. House investigative panel, New York Democrat Edolphus Towns, called the pay figures "shocking and appalling" and announced a hearing into compensation practices at banks.

The White House was more muted. "The president continues to believe that the American people don't begrudge people making money for what they do as long as...we're not basically incentivizing wild risk-taking that somebody else picks up the tab for," said White House Spokesman Robert Gibbs.

"In a few weeks, the Treasury Department’s czar of executive pay will have to answer this $100 million question: Should Andrew J. Hall get his bonus?

Mr. Hall, the 58-year-old head of Phibro, a small commodities trading firm in Westport, Conn., is due for a nine-figure payday, his cut of profits from a characteristically aggressive year of bets in the oil market.

There is little doubt that Mr. Hall is owed the money under his contract. The problem is that his contract is with Citigroup, which was saved with roughly $45 billion in taxpayer aid.

Corporate pay has become a live grenade in the aftermath of the largest series of corporate bailouts in American history. In March, when the American International Group, rescued at vast taxpayer expense, was to give out $165 million in bonuses, Congress moved to constrain the payouts, and protesters showed up at the homes of several executives."

Treasury oversight and rulemaking

Special Master to slash pay 50% at TARP firms

Today, the Special Master for TARP Executive Compensation Kenneth R. Feinberg released determinations on the compensation packages for the top executives at firms that received exceptional TARP assistance. Under the Emergency Economic Stabilization Act (EESA) as amended in 2009, the Special Master has a mandate to review all forms of compensation for five most senior executive officers and the next 20 most highly compensated employees at the seven firms that received exceptional TARP assistance (AIG, Citigroup, Bank of America, Chrysler, GM, GMAC and Chrysler Financial).

The determinations announced today for the top 25 most highly paid at the seven firms receiving exceptional assistance:

  1. Reform Pay Practices for Top Executives to Align Compensation With Long-Term Value Creation and Financial Stability
    1. Reject cash bonuses based on short-term performance, as required by statute, in favor of company stock that must be held for the long term
    2. Restructure existing cash "guarantees" into stock that must be held for the long term
  2. Significantly Reduces Compensation Across the Board
    1. Average cash compensation down by more than 90 percent
    2. Approved cash salary limited to $500,000 for more than 90 percent of relevant employees
    3. Average total compensation down by more than 50 percent
    4. Exceptions where necessary to retain talent and protect taxpayer interests
  3. Require Salaries to Be Paid in Company Stock Held Stock Over the Long Term
    1. Stock is immediately vested, requiring executives to invest their own funds alongside taxpayers
    2. Stock may only be sold in one-third installments beginning in 2011--or, if earlier, when TARP is repaid--aligning executives' interests with those of taxpayers
  4. Require Incentive Compensation to be Paid in the Form of Long Term Restricted Stock – and to be Contingent on Performance and on TARP Repayment
    1. Require executives to meet goals set in consultation with the Special Master, and certification of achievement of goals by an independent compensation committee
    2. Any incentives granted paid only in stock that requires three years of service and can be cashed in only when TARP is repaid
  5. Require Immediate Reform of Practices Not Aligned with Shareholder and Taxpayer Interests
    1. Limits "other" compensation and perquisites
    2. No further accruals under supplemental executive retirement plans or severance plans

"The Obama administration slammed Wall Street by ordering pay cuts of an average of 50 percent and caps on benefits for top executives at companies owing the government billions of dollars from taxpayer-funded bailouts.

The news triggered debate about the government’s reach into private industry, whether pay reductions would spread to other companies and if a talent drain from U.S. firms would ensue. Others cheered the move.

“I don’t think there will be any charity cases on Wall Street,” said Representative Barney Frank, 69, a Democrat from Massachusetts and chairman of the House Financial Services Committee in a telephone interview. “This is a very good thing.”

Executives at seven companies including New York-based Citigroup Inc. and Charlotte, North Carolina-based Bank of America Corp. will have their pay cut by an average of 50 percent after months of negotiations with Kenneth R. Feinberg, 63, the U.S. special master on compensation, according to people familiar with the matter.

The cash portion of salaries for the 25 highest-paid employees will be slashed 90 percent under Feinberg’s review, which will be released as early as today, according to one person familiar with the talks. Some cash will be replaced by shares that employees will be restricted from selling immediately, another person said.

The administration, mindful of popular anger over Wall Street bonuses and risk taking that sparked the worst financial crisis in seven decades, responded favorably to Feinberg’s work. “The president put Ken Feinberg in place in order to be an advocate for taxpayers and it appears that Feinberg is doing what the president put him in place to do,” said Bill Burton, a White House spokesman.

Treasury's TARP Standards for Compensation

This interim final rule, promulgated pursuant to sections 101(a)(1), 101(c)(5), and 111 of the Emergency Economic Stabilization Act of 2008 (EESA), as amended by the American Recovery and Reinvestment Act of 2009 (ARRA), provides guidance on the executive compensation and corporate governance provisions of EESA that apply to entities that receive financial assistance under the Troubled Asset Relief Program (TARP). Section 111 of EESA requires entities receiving financial assistance (TARP recipients) from the Department of the Treasury (Treasury) to meet appropriate standards for executive compensation and corporate governance. This interim final rule includes standards for TARP recipients that implement the provisions of section 111 of EESA, as well as certain additional standards adopted pursuant to the authority granted the Treasury under section 111(b)(2) to promulgate such additional standards.

This Interim Final Rule sets forth the following standards, which generally apply to all TARP recipients in the programs under the TARP, subject to certain exceptions for TARP recipients that do not hold outstanding obligations:

  1. limits on compensation that exclude incentives for senior executive officers (SEOs) to take unnecessary and excessive risks that threaten the value of the TARP recipient;
  2. provision for the recovery of any bonus, retention award, or incentive compensation paid to a SEO or the next twenty most highly compensated employees based on materially inaccurate statements of earnings, revenues, gains, or other criteria;
  3. prohibition on making any golden parachute payment to a SEO or any of the next five most highly compensated employees;
  4. prohibition on the payment or accrual of bonus, retention award, or incentive compensation to SEOs or certain highly compensated employees, subject to certain exceptions for payments made in the form of restricted stock;
  5. prohibition on employee compensation plans that would encourage manipulation of earnings reported by the TARP recipient to enhance an employee’s compensation;
  6. adoption of an excessive or luxury expenditures policy;
  7. disclosure of perquisites offered to SEOs and certain highly compensated employees;
  8. disclosure related to compensation consultant engagement;
  9. prohibition on tax gross-ups to SEOs and certain highly compensated employees;
  10. compliance with federal securities rules and regulations regarding the submission of a non-binding resolution on SEO compensation to shareholders; and
  11. establishment of the Office of the Special Master for TARP Executive Compensation (Special Master) to address the application of these rules to TARP recipients and their employees. Among the duties and responsibilities of the Special Master with respect to TARP recipients of exceptional assistance is to review and approve compensation payments and compensation structures applicable to the SEOs and certain highly compensated employees, and to review and approve compensation structures applicable to certain additional highly compensated employees. TARP recipients that are not receiving exceptional assistance may apply to the Special Master for an advisory opinion with respect to compensation payments and structures. For further discussion of the Special Master’s responsibilities, see section III.B of this preamble.

Finally, this interim final rule also establishes compliance reporting and recordkeeping requirements regarding the rule’s executive compensation and corporate governance standards. This interim final rule generally affects TARP recipients, their SEOs, and certain of their highly compensated employees.

Treasury on compensation principles and legislative proposals

On June 10, 2009, Treasury released a statement on compensation that set forth five broad-based principles designed to better align compensation practices with sound risk management and long-term growth. These five compensation principles set forth in the Treasury announcement are meant to be the foundation for future reforms and are intended to apply "particularly" to the financial sector (leaving open their wider application to all public companies in the future), regardless of whether the entities are TARP recipients. In conjunction with the Treasury announcement, two legislative proposals were released concerning "say-on-pay" and compensation committee independence at public companies.

Treasury Statement on Compensation

In a statement, Treasury Secretary Timothy Geithner made clear that there is no intention to create pay caps or to prescribe how companies must set compensation. Rather, Treasury indicates these standards are intended to guide compensation practices towards prudent risk-taking and properly aligned incentives. Listed below are the five principles set forth by Treasury:

  • Compensation plans should properly measure and reward performance.
  • Compensation should be structured to account for the time horizon of risks.
  • Compensation practices should be aligned with sound risk management.
  • Golden parachutes and supplemental retirement packages should align the interests of executives and shareholders.
  • Transparency and accountability in the process of setting compensation should be promoted.

Proposed Say-on-Pay legislation

The Obama administration, with Treasury's support, is calling for legislation that would give the SEC the authority to require public companies to give shareholders a non-binding say-on-pay vote.

All public companies would be required to include a say-on-pay shareholder resolution in their annual proxy statement, which would solicit the approval or disapproval of the issuer's executive compensation program as disclosed in the proxy.

Under the proposal, shareholders would vote on the entire compensation program without the ability to identify the specific practices of which shareholders may disapprove. In partial response to this lack of granularity, companies will have the ability, if they desire, to include additional resolutions on specific compensation decisions.

Shareholders will also have the ability to cast a non-binding say-on-pay vote for golden parachute compensation disclosed in proxy material prepared in connection with a merger, acquisition or any other transaction that may involve a change in control.

Proposed legislative compensation fact sheet

Treasury is also asking for Congressional approval of legislation that would give compensation committees greater independence, similar to the independence granted to audit committees after the passage of the Sarbanes-Oxley Act of 2002. The compensation committees of companies listed on national securities exchanges would have to meet "exacting" standards for independence promulgated by the SEC. Furthermore, compensation committee members would have to be independent from management, as determined by standards also promulgated by the SEC, and companies would be required to ensure that compensation committees have the resources to hire independent compensation consultants and outside counsel answerable solely to the compensation committee.

The Rule clarifies both the provisions of ARRA and the intentions of the Obama administration. Controversial proposals, such as the $500,000 salary cap previously proposed by the administration, have largely been abandoned. Risk avoidance and long-term value seem to underlie both the Rule and the other Treasury announcements and legislative proposals. It remains to be seen whether future events or Congressional action will take these executive compensation and corporate governance standards in new directions.

Source: Fried Frank

SEC oversight and rulemaking

"Reasonably likely" threshold for compensation risk disclosure

The concept of "unnecessary and excessive risks" in compensation has officially arrived. It first arose as part of the compensation restrictions for the Troubled Asset Relief Program (TARP) created in 2008 to combat the financial crisis. But it's not just for recipients of TARP anymore. On Dec. 16, 2009, the Securities and Exchange Commission (SEC) brought the concept to all other publicly traded companies with the adoption of final proxy disclosure enhancements effective for the 2010 proxy season.

The additional disclosures relating to compensation and risk represent a major change in the requirements for companies not already falling under the umbrella of TARP. The final rules also leave plenty of room for variance among companies, and our review of initial disclosures has yielded mixed results in both style and substance.

For many companies, it was clear that the disclosures were based on in-depth, thoughtful analyses of the risks associated with their compensation programs. These disclosures included a discussion of the compensation features with the potential to encourage excessive risk taking, such as too much focus on equity compensation, a compensation mix too heavily weighted on annual incentives and steep payout cliffs. Many of these companies also disclosed changes being implemented to mitigate these risks, such as smoother payout curves, linear payout formulas vs. payout "cliffs," and expansion of compensation recovery policies.

Many other companies found no material concerns with their compensation programs, but still disclosed the detailed results of their risk assessments. Some went even further and disclosed why they felt there were no issues with their current programs, outlining the mitigating actions taken to properly align the risk of the compensation program with the risk of the enterprise as a whole.

Conversely, some companies provided exactly what the SEC did not want — generic, boilerplate disclosures. These disclosures often said little more than "we have assessed the risks of our compensation programs and believe that it is not reasonably likely that our programs will have a material adverse effect on the company."

What exactly are the new SEC requirements? Companies are now required to address their overall compensation policies and practices for all employees if they create risks that are "reasonably likely to have a material effect on the company." The "reasonably likely" threshold parallels that of the Management Discussion and Analysis (MD&A) requirements, which require risk-oriented disclosure of the known trends and uncertainties that are material to the company's business.

So, what does this mean? The SEC has provided some guidance to registrants in the form of examples of situations that could trigger disclosure:

  • A business unit that carries a significant portion of the company's risk profile
  • A business unit with compensation structured in a significantly different way from others
  • A business unit that is significantly more profitable than others within the company

Compensation policies and practices that vary significantly from the overall risk and reward structure of the company Further, the SEC has provided examples of the types of issues that should be discussed if disclosure is required, such as the following:

  • The general design philosophy of the company's compensation policies and practices
  • Considerations in structuring the company's compensation policies and practices
  • How the company's compensation policies relate to the realization of risks in both the short- and long-term, such as clawback and hold policies
  • Material changes made to compensation policies and practices as a result of changes in the company's risk profile
  • The extent to which the company monitors compensation policies and practices to determine if risk management objectives are being met.

The final rules do not require that companies make an affirmative statement that they have determined that the compensation-based risks are not reasonably likely to have a material adverse effect on the company.

SEC adopts amendments to proxy disclosures on compensation

The Securities and Exchange Commission voted 4-1 to adopt amendments to the disclosure requirements related to executive compensation and other corporate governance matters in proxy and information statements, annual reports and registration statements. The new rules will require companies to make:

  • --new or revised disclosure about compensation policies,
  • --the use of compensation consultants,
  • --director and nominee qualifications,
  • --board leadership structure, and
  • --diversity policies.

The new disclosure requirements will take effect February 28, 2010.

SEC exercises "clawbacks" under SOX Section 304

Source: The Case For Aggressive Enforcement Of The Sarbanes-Oxley “Claw Back” Provison Harvard Law School Forum on Corporate Governance and Financial Regulation, August 23, 2009

"The SEC alleges that his company [CSK Auto Corp] engaged in a massive accounting fraud, requiring a restatement, and thus Jenkins must payback these funds under Section 304 of SOX, the so-called “claw back” provision. Section 304, rarely used in the past by the SEC and never before against a CEO who was not personally accused of fraud, requires repayment to his company of certain bonuses and stock sale profits from a CEO or CFO whose company must make a restatement based on “misconduct.” The SEC pointedly did not accuse Mr. Jenkins of personal participation or knowledge of the fraud.

The Wachtell authors question the SEC’s taking action under Sec. 304 against a CFO not personally accused of fraud, calling it a “regrettable policy choice” and an “unfortunate contribution to the overheated atmosphere surrounding executive compensation.” Other commentators have also questioned the lawsuit, suggesting that it will have unfortunate consequences if successful. They too feel the statute is too ambiguous regarding whose “misconduct” is required to hit the CEO or CFO with claw back actions. The SEC, however, appears very much committed to the case and eager to test its new enforcement agressivness in an area with considerable potential deterrent impact.

In my recent client advisory, published thru the Mondaq news service, I argue the contrary. I believe there should be strict and aggressive enforcement by the SEC under the clear language of Sec. 304 to seek claw back from CEO’s and CFO’s who certify financial statements which ultimately have to be restated. There should be consequences to top managers who give these sweeping certifications to investors only later to have to issue restatements, often disclosing material weaknesses in internal controls or worse, which have the effect of making the certifications worthless. Since several courts have held there is no private remedy under Section 304, the SEC alone bears the responsibility to enforce this provision of SOX and give teeth to the certification requirements."

Executive compensation for TARP recipients

Treasury published an interim final rule (the "Rule") that provides long-awaited guidance on the executive compensation and corporate governance standards imposed by the Emergency Economic Stabilization Act of 2008 ("EESA"), as amended by the American Recovery and Reinvestment Act of 2009 ("ARRA")

On June 10, 2009, Treasury released a statement on compensation that sets forth five principles that are intended to be the basis for future guidelines to which all public companies, particularly financial institutions, would be subject. Treasury also released two fact sheets that anticipate proposed legislation on "say-on-pay" and compensation committee independence.

This memorandum outlines the Rule and announcements, and is divided into four sections, as follows: (i) new guidance on preexisting ARRA provisions, (ii) new compensation and governance standards added by the Rule, (iii) the creation of the Office of the Special Master for TARP and (iv) the compensation principles and legislative proposals recently announced by Treasury.

Key highlights of the Rule include:

  • A definition of "financial assistance" under the Troubled Asset Relief Program ("TARP") provides flexibility to structure investment funds under the Public-Private Investment Program ("PPIP") so that general partners and investment managers to those investment funds may be able to avoid the application of the TARP restrictions. Furthermore, the Rule indicates that a Term
  • Asset-Backed Loan Facility ("TALF") borrower will not be deemed to have received "financial assistance" and therefore will also not be subject to the TARP restrictions.
  • A clarification of the definition of "highly compensated employees" to encompass employees that may not be executive officers and to specify how compensation should be calculated for this purpose.
  • An exception from the limitations on bonuses to certain commission payments, including for investment management services.
  • An expansion of ARRA's prohibition on golden parachute payments and a new prohibition tax gross-ups.
  • The creation of the Office of the Special Master for TARP, with unprecedented new powers to intervene in compensation decisions at certain financial institutions.
  • Anti-abuse measures to limit the avoidance of the executive compensation restrictions.

Source: Fried Frank

Federal Reserve compensation oversight

Federal banking agencies adopt final guidance on incentive compensation

The Federal Reserve, the Office of the Comptroller of the Currency (OCC), the Office of Thrift Supervision (OTS), and the Federal Deposit Insurance Corporation (FDIC) issued final guidance today to ensure that incentive compensation arrangements at financial organizations take into account risk and are consistent with safe and sound practices. The guidance was originally proposed by the Federal Reserve last year. The OCC, OTS, and FDIC are joining in issuing the final version. The Federal Reserve, in cooperation with the other banking agencies, has completed a first round of in-depth analysis of incentive compensation practices at large, complex banking organizations as part of a so-called horizontal review, a coordinated examination of practices across multiple firms. Last month, the Federal Reserve delivered assessments to the firms that included analysis of current compensation practices and areas requiring prompt attention. Firms are submitting plans to the Federal Reserve outlining steps and timelines for addressing outstanding issues to ensure that incentive compensation plans do not encourage excessive risk-taking.

"Many large banking organizations have already implemented some changes in their incentive compensation policies, but more work clearly needs to be done," Federal Reserve Governor Daniel K. Tarullo said. "The Federal Reserve expects firms to make material progress this year on the matters identified as we work toward the ultimate goal of ensuring that incentive compensation programs are risk appropriate and are supported by strong corporate governance."

During the next stage, the banking agencies will be conducting additional cross-firm, horizontal reviews of incentive compensation practices at the large, complex banking organizations for employees in certain business lines, such as mortgage originators. The agencies will also be following up on specific areas that were found to be deficient at many firms, such as:

  • Many firms need better ways to identify which employees, either individually or as a group, can expose banking organizations to material risk;
  • While many firms are using or are considering various methods to make incentive compensation more risk sensitive, many are not fully capturing the risks involved and are not applying such methods to enough employees;
  • Many firms are using deferral arrangements to adjust for risk, but they are taking a "one-size-fits-all" approach and are not tailoring these deferral arrangements according to the type or duration of risk; and
  • Many firms do not have adequate mechanisms to evaluate whether established practices are successful in balancing risk.

In addition to the work with the large, complex banking organizations, the agencies are also working to incorporate oversight of incentive compensation arrangements into the regular examination process for smaller firms. These reviews are being tailored to take account of the size, complexity, and other characteristics of these banking organizations.

The guidance is designed to ensure that incentive compensation arrangements at banking organizations appropriately tie rewards to longer-term performance and do not undermine the safety and soundness of the firm or create undue risks to the financial system. Because improperly structured compensation arrangements for both executive and non-executive employees may pose safety and soundness risks, the guidance applies not only to top-level managers, but also to other employees who have the ability to materially affect the risk profile of an organization, either individually or as part of a group.

Federal Reserve staff will prepare a report, in consultation with the other federal banking agencies, after the conclusion of 2010 on trends and developments in compensation practices at banking organizations.

The guidance will become effective when published in the Federal Register, which is expected shortly.

Attachment (212 KB PDF)

Fed critical of many bank pay practices

The Federal Reserve said a review of pay practices found many big banks to be “deficient” in curbing the excessive risk-taking that helped fuel the financial crisis.

Banks must do a better job of identifying employees who can expose the company to “material risk,” the Fed said today in a statement in Washington with three other U.S. regulators. The agencies will follow up on the “specific areas that were found to be deficient at many firms.”

By issuing compensation guidelines updated from a Fed proposal in October, regulators aim to overhaul incentives usually set by corporate boards and reduce threats to the financial system. The central bank, which oversees companies including Goldman Sachs Group Inc. and Citigroup Inc., didn’t identify any firms today.

While many large banks have already made some changes, “more work clearly needs to be done,” Fed Governor Daniel K. Tarullo, who is coordinating the efforts, said in the statement. The central bank “expects firms to make material progress this year on the matters identified,” said Tarullo, appointed by President Barack Obama in January 2009.

The Fed said it gave its analysis to the banks last month and listed “areas requiring prompt attention.” Companies are submitting plans to the central bank to address “outstanding issues to ensure that incentive compensation plans do not encourage excessive risk-taking,” the Fed said.

In the next stage of reviews, regulators will compare compensation practices at big banks in business lines such as mortgage origination, the Fed said.

Federal Reserve sets pay limits for banks

"The Federal Reserve told big US banks on Monday that draft pay guidelines aimed at curbing excessive risk-taking will have to be followed in this year’s round of bonus payments, even though the rules do not officially come into force until 2010.

The call for a speedy implementation of the proposals underlines the Fed’s desire to change Wall Street’s pay practices and stave off a public backlash ahead of what promises to be a bumper bonus season at many banks.

The timing of the Fed’s move is important because it sets the tone on compensation just as financial institutions are deciding how to apportion their 2009 bonus pool to star bankers and traders.

In meetings at the regional offices of the Fed, regulators told chief executives of the nation’s 28 top banks that they had until February 1 to prepare a written analysis of how their compensation practices meet the guidelines, according to some of the attendees.

The New York Fed meeting was attended by some of the world’s most prominent bankers, including John Mack, chairman of Morgan Stanley, Vikram Pandit, Citigroup’s chief executive, and US representatives from European banks such as Credit Suisse and Deutsche Bank.

The Fed stressed that banks would be expected to comply with the broad principles of the new rules – aligning compensation with risk and avoiding pay structures that foster short-term decisions by traders – in 2009, bankers said.

Officials said that, for this year, banks should abide by the proposed rules “whenever possible” – a sign that regulators do not expect financial groups to tear up contracts or renege on promises of guaranteed bonuses made in previous years.

Banks have until November 27 to comment on the draft guidelines, which were released 10 days ago, but few expect substantial changes to the rules.

Bankers who were at the meetings said the Fed’s message was clear: practices that contradict the spirit of the new rules will not be tolerated this year even though the final version of the guidelines will not be available until December.

“They told us in no uncertain terms to look at our pay practices for this year and make sure they comply,” said a senior banker who was at the meeting.

The US authorities see the financial industry’s pay practices, particularly those that rewarded short-term risk-taking, as contributing to the build-up in risk that led to the financial crisis."

The Federal Reserve Board on Thursday issued a proposal designed to ensure that the incentive compensation policies of banking organizations do not undermine the safety and soundness of their organizations.

The proposal includes two supervisory initiatives. One, applicable to 28 large, complex banking organizations, will review each firm's policies and practices to determine their consistency with the principles for risk-appropriate incentive compensation set forth in the proposal. These firm-specific policies will be assessed by supervisors in a special "horizontal review," a coordinated examination of practices at the 28 firms. The policies and implementing practices adopted by these firms in response to the final supervisory principles will become a part of the supervisory expectations for each firm and will be monitored for compliance.

Second, supervisors will review compensation practices at regional, community, and other banking organizations not classified as large and complex as part of the regular, risk-focused examination process. These reviews will be tailored to take account of the size, complexity, and other characteristics of the banking organization.

"Compensation practices at some banking organizations have led to misaligned incentives and excessive risk-taking, contributing to bank losses and financial instability," Federal Reserve Chairman Ben S. Bernanke said. "The Federal Reserve is working to ensure that compensation packages appropriately tie rewards to longer-term performance and do not create undue risk for the firm or the financial system."

Federal Reserve Governor Daniel K. Tarullo noted that the proposal on compensation practices is an important part of the Federal Reserve's ongoing effort to improve financial regulation.

"Today's proposal is but one part of a broad program by the Federal Reserve to strengthen supervision of banks and bank holding companies in the wake of the financial crisis," Tarullo said. "In customizing the implementation of our compensation principles to the specific activities and risks of banking organizations, we advance our goal of an effective, efficient regulatory system."

Flaws in incentive compensation practices were one of many factors contributing to the financial crisis. Inappropriate bonus or other compensation practices can incent senior executives or lower level employees, such as traders or mortgage officers, to take imprudent risks that significantly and adversely affect the firm. With that in mind, the Federal Reserve's guidance and supervisory reviews cover all employees who have the ability to materially affect the risk profile of an organization, either individually, or as part of a group.

The findings from these reviews will be incorporated into the banking organization's supervisory ratings. In appropriate circumstances, the Federal Reserve may require an organization to develop a corrective action plan to rectify deficiencies in its incentive compensation programs and processes.

To monitor and encourage improvements, Federal Reserve staff will prepare a report after the conclusion of 2010 on trends and developments in compensation practices at banking organizations.

Comments will be accepted on the proposed guidance for 30 days after publication in the Federal Register, which is expected shortly. The Federal Register notice is attached.

"In a landmark moment for US finance, the Federal Reserve on Thursday unveiled draft rules for bankers’ pay extending the reach of regulators deep into the compensation practices of leading financial firms.

But the Fed did not support a standard benchmark for the proportion of bonuses that should be deferred, in line with a proposal adopted by many European nations – raising fears over an uneven playing field between US and European banks.

The Fed plan would force the top 28 financial institutions in the US to prove that their pay schemes do not encourage excessive risk-taking – with regulators empowered to force changes they deem necessary. It would also require them to show strong corporate governance and risk management.

The authorities intend to cast their net widely, to include all employees who either individually or as a group materially affect the riskiness of a firm.

However, firms will be free to chose from a menu of practices to align compensation with risk, as well as income for different groups of employees, with no one-size-fits-all rule. Smaller banks will have to meet the same standard but with lighter touch supervision.

The Fed did not adopt the approach put forward last month by the Financial Stability Board, the international standards body, in a report endorsed by the G20 leaders.

The FSB recommended that for executives whose actions have a material impact on the firm’s risk profile, about 40-60 per cent of their bonuses should be deferred and paid over a number of years.

Some European countries are applying that specific range in their pay reforms. But the US central bank on Thursday simply stated “some have suggested that one or more formulaic limits be adopted” – and asked banks for comment.

The Fed plan came on the same day as the Obama administration’s “pay tsar” announced a separate crackdown on pay at seven bailed-out companies – raising concerns about their ability to compete for talent with the rest of Wall Street.

Kenneth Feinberg, the government’s pay adviser, pushed companies that range from Bank of America to Chrysler to cut the cash component of the remuneration for their top 25 executives by an average of about 90 per cent.

A bank lobbyist noted that the Fed’s approach was a “refreshing” change from that of Mr Feinberg.

"Policies that set the pay for tens of thousands of bank employees nationwide would require approval from the Federal Reserve as part of a far-reaching proposal to rein in risk-taking at financial institutions.

The Fed's plan would, for the first time, inject government regulators deep into compensation decisions traditionally reserved for the banks' corporate boards and executives.

Under the proposal, the Fed could reject any compensation policies it believes encourage bank employees -- from chief executives, to traders, to loan officers -- to take too much risk. Bureaucrats wouldn't set the pay of individuals, but would review and, if necessary, amend each bank's salary and bonus policies to make sure they don't create harmful incentives.

A final proposal is still a few weeks from completion and could be revised along the way, according to people familiar with the matter. It requires a vote by the central bank's board, but no congressional approval.

The U.S.'s largest banks, about 25 in number, would get especially close scrutiny. The central bank intends to compare these banks as a group to see if any practices stand out as unusually dangerous to their firms.

The Fed's latest move marks another striking exertion of power by the nation's central bank since the financial crisis struck with ferocity two years ago. It has bailed out firms such as American International Group Inc. and has flooded the financial system with money.

Some congressional critics, especially Republicans, argue the Fed is exerting itself too aggressively, a complaint that will surely be amplified by its move to oversee bank pay practices.

The proposal will likely please congressional Democrats, for whom corporate compensation has become a rallying cry, at a time when the Fed is defending itself from moves by Congress to restrain its independence.

The Fed itself believes it has the legal authority to take such action through its existing supervisory powers, which are designed to oversee a bank's soundness."

  • Governor Daniel K. Tarullo Speech at the University of Maryland's Robert H. Smith School of Business Roundtable: Executive Compensation: Practices and Reforms, Washington, D.C., November 2, 2009, "Incentive Compensation, Risk Management, and Safety and Soundness"

Fed summons CEOs of 28 top U.S. banks

"The chief executive officers of 28 of the largest U.S. banks have been summoned to meet with supervisors at Federal Reserve banks to discuss new rules on compensation, said a person familiar with the matter.

The Fed this month said it will review the largest banks to ensure compensation doesn’t create incentives for the kinds of risky investments that brought the global financial system to the edge of collapse, prompting bailouts of firms including Bank of America Corp. and Citigroup Inc.

By summoning bank chiefs, the Fed is sending a message that it wants the pay reviews taken seriously, said Kevin Petrasic, an attorney at Washington law firm Paul Hastings and a former special counsel at the Office of Thrift Supervision.

“It starts with the CEO,” Petrasic said. “It is not subtle at all to tell the most highly compensated people in the organization, ‘Okay we are starting with you.’”

Chief executives at the Nov. 2 meetings will be briefed on so-called horizontal reviews used by regulators to compare banks and identify those where pay practices differ significantly from the norm, the person said. Among the topics to be covered will be how banks will share information with supervisors.

In May, the Fed conducted so-called stress tests of the 19 largest financial firms, including Wells Fargo & Co., Morgan Stanley, Capital One Financial Corp. and MetLife Inc. to ensure their capital was adequate to withstand a more severe economic downturn. This time, the Fed isn’t naming the banks and the compensation review will be kept confidential.

Cuomo seeks 2009 bonus data from Wall Street

New York’s attorney general asked eight major U.S. banks to turn over data on planned bonuses for 2009, amid a growing public outcry over payouts in light of the industry’s role in the near-collapse of the financial system and recession.

Andrew Cuomo made the demand Monday to the banks that were first to receive federal bailout money in the fall of 2008: Bank of America Corp, Bank of New York Mellon Corp, Citigroup Inc, Goldman Sachs Group Inc, JPMorgan Chase & Co, Morgan Stanley, State Street Corp and Wells Fargo & Co.

These banks have all repaid infusions taken from the government’s much-maligned Troubled Asset Relief Program (TARP), though some of the U.S. investment in Citigroup has been converted into common stock.

In letters to the banks, Cuomo requested details by Feb. 8 about bonus pools, whether cash or stock is being used in awards, mechanisms designed to tie pay to performance, how TARP money affected the payouts, and whether any awards can be recouped in case the banks’ fortunes later sour.

“Some banks made a lot of money because, in some cases, taxpayers gave them a lot of money,” Cuomo said at a news conference. Citing the nation’s 10 percent unemployment rate, he added: “The taxpayer is still paying that cost.”

Cuomo said he favors bonuses that encourage business practices that can spur “long-term sustainable growth,” not the “fictional” short-term profits that he said “brought this nation to its knees” in 2008.

Bonuses typically comprise the bulk of annual compensation for the most highly-paid bankers and traders, regularly reaching seven-figure and, occasionally, eight-figure sums.

The eight banks were not immediately available for comment.

While some bonuses may this year contain a larger percentage of stock, to reduce any temptation to take outsized risk, large payouts are likely to provoke the ire of Congress, governance critics and shareholders.

Many banks, in contrast, say high payouts are necessary to keep top talent that might otherwise defect to rivals.

White House spokesman Robert Gibbs said on Monday that some executives at Wall Street firms “continue not to get it” when it comes to big bonuses at banks that got taxpayer bailouts.

He declined to comment on news reports that the Obama administration is weighing a fee on banks to recoup more taxpayer funds spent on the financial system rescue.

A congressional commission is expected on Wednesday to begin a hearing into causes of the financial crisis, including whether the desire for high pay drove outsized risk-taking.

Speakers are expected to include Bank of America Chief Executive Brian Moynihan, Goldman Chief Executive Lloyd Blankfein, JPMorgan Chief Executive Jamie Dimon, and Morgan Stanley Chairman John Mack.

Bankers expect rising bonus pay to break records

"In Washington and on Main Street, politicians and voters are railing against Wall Street’s multi- million-dollar pay packages. In the financial world, most executives expect their bonuses to match or exceed last year’s, with 1 in 10 predicting their best-ever payout.

Having shaken off the biggest economic decline since the 1930s, almost three in five traders, analysts and fund managers believe their 2009 bonuses will either increase or won’t change, according to a quarterly poll of Bloomberg customers. Only one in four see a decline. Asians are the most optimistic about pay and Americans and Europeans somewhat less so.

“The large banks are knocking the cover off the ball,” said Daniel Alpert, managing director of New York-based investment bank Westwood Capital LLC. The industry is “making money, though with government help.”

Worldwide, a majority of market professionals in the survey also turn thumbs down on government attempts to limit compensation, with 51 percent saying restrictions will stifle useful innovation. Only about 38 percent think pay limits will control excessive risk-taking.

In the U.S., where President Barack Obama has chided Wall Street for being “motivated only by the appetite for quick kills and bloated bonuses,” 65 percent say the restrictions will damp innovation.

The Bloomberg Global Poll of investors and analysts in six continents was conducted Oct. 23-27. It is based on interviews with a random sample of 1,452 Bloomberg subscribers, representing decision makers in markets, finance and economics. The poll has a margin of error of plus or minus 2.6 percentage points.

“If we were looking for a sense of Wall Street to be, ‘we’re hit hard, I’m going to make less money,’ these results don’t show it,” said J. Ann Selzer, president of Selzer & Co., the Des Moines, Iowa-based public-opinion research firm that conducted the survey.

The findings “give some fuel to the people who claim that Wall Street hasn’t really gotten it,” said Mark Borges, a compensation consultant at Compensia Inc. in Corte Madera, California. “There really hasn’t been a dramatic cultural shift in these organizations.”

Major U.S. banks and securities firms are on pace to pay their employees about $140 billion this year -- a record high that shows compensation is rebounding despite regulatory scrutiny of Wall Street's pay culture.

Workers at 23 top investment banks, hedge funds, asset managers and stock and commodities exchanges can expect to earn even more than they did the peak year of 2007, according to an analysis of securities filings for the first half of 2009 and revenue estimates through year-end by The Wall Street Journal.

Total compensation and benefits at the publicly traded firms analyzed by the Journal are on track to increase 20% from last year's $117 billion -- and to top 2007's $130 billion payout. This year, employees at the companies will earn an estimated $143,400 on average, up almost $2,000 from 2007 levels.

The growth in compensation reflects Wall Street firms' rapid return to precrisis revenue levels. Even as the economy is sluggish and unemployment approaches 10%, these firms have been boosted by a stronger stock market, thawing credit market, a resurgence in deal making and the continuing effects of various government aid programs.

The rebound also reflects growing confidence by some Wall Street firms that they can again pay top dollar for top talent, especially once they have repaid the taxpayer-funded capital infusions they received at the height of the crisis. So far, regulators and lawmakers have focused on making sure pay practices discourage excessive risk-taking, leaving to companies the question of how much is too much.

The Journal's analysis includes banking giants J.P. Morgan Chase & Co., Bank of America Corp. and Citigroup Inc.; securities firms such as Goldman Sachs Group Inc. and Morgan Stanley; asset managers BlackRock Inc. and Franklin Resources Inc.; online brokerage firms Charles Schwab Corp. and Ameritrade Holding Corp.; and exchange operators CME Group Inc. and NYSE Euronext Inc.

Global regulatory approaches

The following is unsourced:

There are a number of strategies that could be employed as a response to the growth of executive compensation.

  • In the United States, shareholders must approve all equity compensation plans. Shareholders can simply vote against the issuance of any equity plans. This would eliminate huge windfalls that can be due to a rising stock market or years of retained earnings.
  • Independent non-executive director setting of compensation is widely practiced. Remuneration is the archetype of self dealing. An independent remuneration committee is an attempt to have pay packages set at arms' length from the directors who are getting paid.
  • Disclosure of salaries is the first step, so that company stakeholders can know and decide whether or not they think remuneration is fair. In the UK, the Directors' Remuneration Report Regulations 2002 SI 2002/1986 introduced a requirement into the old Companies Act 1985, the requirement to release all details of pay in the annual accounts. This is now codified in the Companies Act 2006. Similar requirements exist in most countries, including the U.S., Germany, and Canada.
  • A say on pay - a non-binding vote of the general meeting to approve director pay packages, is practised in a growing number of countries. Some commentators have advocated a mandatory binding vote for large amounts (e.g. over $5 million).[1] The aim is that the vote will be a highly influential signal to a board to not raise salaries beyond reasonable levels. The general meeting means shareholders in most countries. In most European countries though, with two-tier board structures, a supervisory board will represent employees and shareholders alike. It is this supervisory board which votes on executive compensation.
  • Progressive taxation is a more general strategy that affects executive compensation, as well as other highly paid people. There has been a recent trend to cutting the highest bracket tax payers, a notable example being the tax cuts in the U.S. Ex-Soviet Baltic States also have a flat tax system for incomes. Executive compensation could be checked by taxing more heavily the highest earners, for instance by taking a greater percentage of income over $200,000.
  • Maximum wage is an idea which has not been implemented anywhere. The argument is to place a cap on the amount that any person may legally make, in the same way as there is a floor of a minimum wage so that people can not earn too little.
  • Indexing Operating Performance is a way to make bonus targets business cycle independent. Indexed bonus targets move with the business cycle and are therefore fairer and valid for a longer period of time.

EU approves cap on bank bonuses

As Wall Street drags its feet on reining in bonuses, the European Union is forcing its banks — by law — to show some self-restraint.

The European Parliament on Wednesday approved one of the world’s strictest crackdowns on exorbitant bank pay, going beyond some of the limits that many banks were pressed to adopt in the wake of the financial crisis.

The action comes as the Federal Reserve accuses U.S. banks of not moving fast enough to change compensation practices that stoke excessive risk-taking. While American and British regulators have adopted the principles of Europe’s new measure, officials here are going a step further by legislating minimum caps for cash bonuses and other changes to compensation.

Bankers in the 27-nation bloc will be barred from taking home more than 30 percent of their bonus in cash starting next year, and risk losing some of the remainder if the bank’s performance erodes over the next three years. Banks that don’t curb the salaries of their biggest earners will have to set aside more capital to make up for the risk.

“The exercise here is to make sure that bonuses are not a one way bet, so that if you take risks and lose in a big way that will affect what you get,” said Nick Dent, an employment law partner at Barlow Lyde & Gilbert LLP who monitors financial compensation.

BIS Compensation Principles

-- Introduction --

  1. This assessment methodology aims to guide supervisors in reviewing individual firms’ compensation practices and assessing their compliance with the FSB Principles for Sound Compensation Practices (“the Principles”) and their implementation standards (“the Standards”). The objective is to foster supervisory approaches that are effective in promoting sound compensation practices at significant financial firms and help support a level playing field.
  2. The supervisory review framework has been defined with regard to the three issues addressed by the FSB Principles: (i) effective governance of compensation, (ii) effective alignment of compensation with prudent risk-taking, and (iii) effective supervisory oversight and engagement by stakeholders. For each of the FSB Principles and Standards, the assessment methodology proposes various approaches as well as information that could be used by supervisors in conducting reviews. Given the relatively new dimension of the issue of compensation policies, it is likely that this methodology will expand and change over time as more practical knowledge is gained.
  3. This methodology refers to the FSB Principles and Standards as they set internationally agreed objectives, high-level principles and more specific benchmarks. The Basel Committee stresses the importance of translating international guidance into domestic rules and recognises that in many countries, domestic rules represent the key reference point for supervisors both in practice and in a legal sense. Indeed, many initiatives are underway at the national and regional level to implement the FSB Principles and Standards.

Swiss write economic history by exposing execs to liability

Swiss newspapers on Thursday morning were full of praise for UBS shareholders who voted to hold 2007 executives partially responsible for the bank’s near collapse.

Commentators say the decision not to exonerate former CEO Marcel Ospel and other top managers of allowing the bank to suffer record losses and reputational damage is nothing short of historic.

“Shareholders yesterday preferred honesty over immediate profit,” the Geneva-based Le Temps newspaper said in an article titled, “Shareholder courage”.

“It was a courageous and responsible decision.”

During the big bank’s annual shareholder meeting in Basel, some 4,700 stockholders representing 1.7 billion shares, voted by a margin of 53 per cent to reject recommendations by the current board to absolve executives from all responsibility for the bank’s staggering subprime losses that prompted a SFr60 billion federal bailout.

The decision means former managers are now exposed to potential lawsuits.

“This is something that no one for a long time thought possible,” said Blick.

“By standing up to the board, the owners of UBS have written economic history.”

8 countries legislate pay and risk levels

There is a growing divide among G20 nations about how bank pay should be regulated, a new report has suggested.

According to a paper from the Financial Stability Board, while European and American regulators have already moved to introduce new banking legislation, developing nations such as Brazil, Russia and India are moving more slowly on the issue.

Last year, the G20 pledged that banks would be forced to link pay levels to risk, reports the Financial Times.

Since that date, eight countries, including the UK, Germany and France, have put legislation in place that follows the G20 proposal that 60 per cent of large bonuses are deferred and made subject to potential clawbacks in the event of poor financial performance.

A further seven, including China and the US, say they are currently enforcing the G20 pledge through their regulators.

But Brazil and Mexico have stated they will not bring in such rules until later this year, while India, Indonesia and Russia are yet to provide a schedule of when or if they will introduce such measures.

The leaders of five nations, the US, the UK, Canada, France and South Korea, have recently sent a joint letter to other G20 leaders urging them to deliver on their promises to improve the regulation of the financial sector.

"We all have a mutual responsibility to deliver on all our commitments to address the weaknesses that led to the financial crisis," it said.

"This will require that we maintain our vigilance to address the required reforms and guard against complacency as our economies recover."

Earlier this week, British chancellor Alistair Darling also stated that an international levy on banks to provide funds for potential future bailouts may be possible.

In comments reported by Reuters, he said that he was "more optimistic" about such a tax being put in place than he was six months ago.

He added that finance ministers from across the world are becoming "more amenable" to the idea.

UK levies one banker bonus and income tax to 50%

Banks in the U.K. will pay the one- time, 50 percent tax on bonuses levied by the Treasury rather than reduce compensation, according to accountants and lawyers who advise financial institutions. Bankers who face increased income taxes on those payouts may not be so accommodating.

Attention is shifting to how to minimize the effects of a personal income tax rise for high earners to 50 percent from 40 percent, which goes into effect in April, the accountants and lawyers said. One key strategy: Seeking more compensation in deferred stock, a form of pay classified as a capital gain and taxed at 18 percent in the U.K.

“Inevitably, people are going to be pressed toward capital gains tax schemes, there’s no doubt about that,” said Nicholas Stretch, a tax lawyer at London-based law firm CMS Cameron McKenna. “We’re seeing greater interest from clients.”

The levy on bonuses of more than 25,000 pounds ($40,300) and the increase in taxes on individuals earning more than 150,000 pounds a year mark efforts by the ruling Labour Party, facing an election to be held by June, to tap into popular anger over the 1 trillion-pound cost of bailing out U.K. banks during the financial crisis.

Chancellor of the Exchequer Alistair Darling announced the tax on bankers’ bonuses last month. He said he introduced the measure, which covers payouts in cash and deferred stock, to encourage banks to build up capital, not raise revenue.

Dimon’s Protest

It may do the opposite. The Treasury, which initially said the tax would raise 550 million pounds, now estimates it may net as much as 2 billion pounds as banks opt to pay the tax rather than reduce bonuses, according to a government official who declined to be identified.

U.K. banks are going to pay up because the legislation is tightly drawn and Treasury has been unwilling to negotiate, the accountants and lawyers said. An appeal to Darling last month from Jamie Dimon, JPMorgan Chase & Co.’s chief executive officer, made no difference.

“People will be looking at the bonus tax and turning around and saying is there anything that we can do?” said Dominic Stuttaford, a partner at law firm Norton Rose LLP in London, which specializes in advising financial firms. “A lot of them will just say, with a very loud expletive: ‘Sorry, we’ve got to pay it.’”

Representatives of Bank of America Corp., Morgan Stanley and Citigroup Inc. said the banks hadn’t made a decision on how to deal with the tax. Barclays Plc, Royal Bank of Scotland Group Plc, HSBC Holdings Plc, JPMorgan, Credit Suisse Group AG and UBS AG declined to comment.

‘On The Chin’

There’s little appetite among the banks to circumvent the bonus tax because the legislation is rigorously drafted, said Sylvie Watts, a compensation lawyer at London-based Allen & Overy LLP. Banks also run the risk of negative publicity if they are caught trying to evade it, she said.

“There aren’t many ways around it,” she said. Bankers “are just taking it on the chin.”

That leaves banks such as Barclays and RBS, whose compensation committees are preparing to meet this month, with a choice if they pay the bonuses and the tax. They either risk the wrath of shareholders, who will receive a smaller slice of profits, or anger staff outside the U.K. by reducing the global bonus pool, or both, if they split the cost.

“In principle, we can’t support the idea that the shareholders should pick up the bill,” said Peter Montagnon, director of investment affairs at the Association of British Insurers, whose members control about a fifth of the U.K. stock market, including banking stocks. Investors will have to consider whether to support the bank’s decision to add the cost of the tax to the wage bill on a case-by-case basis, he said.

George Osborne

Darling’s bonus tax, backed by Prime Minister Gordon Brown, has helped the Labour Party narrow the lead over the opposition Conservative Party in opinion polls. George Osborne, the lawmaker in line to become chancellor if the Conservatives win the election, has supported limits on cash bonuses and hasn’t ruled out extending the tax.

RBS CEO Stephen Hester told Parliament yesterday that “we are losing talent that I wish we weren’t” because employees are worried about the bank. London Mayor Boris Johnson also warned this week that as many of 9,000 bankers may leave the U.K. as a result of the bonus tax.

Ian Fleming, a managing director at Alvarez & Marsal Taxand LLC in London, disagreed, saying banks are unlikely to move to low-tax regimes because the Darling plan is a one-time levy. “Any extension of the bonus tax might tip the balance,” Fleming said.

April Increase

In addition to the charge on bonuses, U.K. bankers face an income tax increase in April. Any British banker will have to pay half his income over 150,000 pounds to the government for the first time since Prime Minister Margaret Thatcher cut the top rate of income tax to 40 percent in 1988. The top federal tax rate is 35 percent in New York, 45 percent in Frankfurt and 44 percent in Geneva.

“You’ve got a generation of people who have not experienced paying half their income to the government,” said Chris Maddock, tax director of the London-based Vantis Group Ltd. “It’s a psychological barrier.”

Bankers who try to dodge income tax by reclassifying their earnings as a capital gain may struggle to evade British tax authorities, accountants said.

“The government isn’t stupid,” said John Whiting, tax policy director at the London-based Chartered Institute of Taxation, a professional body that promotes the study and practice of taxation. “They are on the lookout.”

France seeks level playing field on bonuses at G20

French Economy Minister Christine Lagarde will call on all countries to abide by the same rules governing bonuses at the forthcoming G20 political summit, she said on Thursday.

France has long called on other leading countries, such as the United States and Britain, to follow the French lead on clamping down on excessive bonus payments.

Lagarde said measures taken to regulate bonuses at a G20 meeting in Pittsburgh in September would allow her to leave for the upcoming G20 summit with "strong words to demand that our other international partners do the same thing".

German banker says slash outsized bonuses

Commerzbank AG Chairman Klaus-Peter Mueller, who has spent more than four decades at Germany’s second-largest bank, said financial firms should jointly rein in bonuses that drain profits and cheat investors.

“Compensation has gone absolutely out of bounds,” Mueller said in an interview in New York today. “It’s almost a kind of betrayal on shareholders. It is simply impossible that you give up to 50 percent of earnings on businesses into bonus pools.”

Wall Street’s top chief executive officers, including Goldman Sachs Group Inc.’s Lloyd Blankfein and JPMorgan Chase & Co.’s Jamie Dimon, testified in Washington today about the causes of the financial crisis amid public outrage over bonus payments. New York and London’s financial centers set the pace for incentive pay and must lead the way in revamping it or governments will impose more severe curbs, Mueller said.

Mueller, 65, joined Frankfurt-based Commerzbank after ending his military service in 1966. He began a seven-year tenure as CEO in 2001 and has also served as president of Germany’s main lobbying group for commercial banks. He said he doesn’t buy the argument that banks must maintain bonuses or face an exodus of employees to other firms or investment funds.

‘Silly’ Banks

“If the 15 largest investment banks of the world said we’ll put an end to this, where would they go?” he said. “How many hedge funds out on the Street are silly enough to pay $10 million, $15 million or $20 million to people who they know they could probably get two months later for $3 million or $4 million?”

Governments across Europe are facing pressure to curb bankers’ earnings after a series of bailouts. Germany’s biggest financial-services businesses agreed last month to uphold the Group of 20’s proposals on pay, helping to avoid bonus taxes proposed for the U.K. and France.

Commerzbank limited pay for management board members to 500,000 euros ($725,000) for 2008 and 2009 after it was forced to tap the government for 18.2 billion euros during the credit crunch. Last month, the bank agreed to extend the cap this year if it doesn’t pay interest on German aid.

Mueller received 493,200 euros in salary and other compensation for 2008, when he moved from CEO to chairman, according to the bank’s most recent annual management report.

Agreed language for the Pittsburgh G-20 Summit

Promoting responsible remuneration practices in the financial sector

15. The G-20 must fulfil the commitment subscribed to in London on pay and compensation to encourage sound risk management and a strong link between compensation and long-term performance, while ensuring a level playing-field.

16. In particular, the G-20 should commit to agreeing to binding rules for financial institutions on variable remunerations backed up by the threat of sanctions at the national level, covering the following principles:

  • a)enhanced governance to ensure appropriate board oversight of compensation and risk;
  • b)strengthened transparency and disclosure requirements;
  • c) variable remunerations including bonuses to be set at an appropriate level in relation to fixed remuneration and made dependent on the performances of the bank, the business unit and the individuals; taking due account of negative developments, so as to avoid guaranteed bonuses; the payment of a major part of significant variable compensations must be deferred over time for an appropriate period and could be cancelled in case of a negative development in the bank's performance;
  • d) prevent stock options from being exercised, and stocks received from being sold, for an appropriate period of time;
  • e) prevent directors and officers from being completely sheltered from risk;
  • f) give supervisory boards the means to reduce compensations in case of deterioration of the performance of the bank;
  • g) explore ways to limit total variable remuneration in a bank to a certain proportion either of total compensation or of the bank’s revenues and/or profits.

"...“There is consensus on a set of principles for compensation that discourage excessive risk-taking and tie compensation to a firm’s long-term performance,” said Daniel Price, who organized a G-20 summit in Washington in November for President George W. Bush and is now a partner at law firm Sidley Austin LLP in Washington.

The principles include paying a higher percentage of compensation in stock, requiring that bonuses are paid over time and be subject to so-called clawbacks if a company’s performance worsens, and eliminating multiyear pay guarantees, Price said.

With a concentration of financial firms in New York and London, the U.S. and U.K. “don’t want to do anything that would make firms migrate out,” Goldstein said.

Executive pay came under scrutiny after the U.S. bailed out financial institutions amid the global crisis last year. Lawmaker outrage over pay reignited in July when New York-based Goldman Sachs Group Inc. set aside a record $11.4 billion for compensation and benefits in the first half of this year.

‘Set of Rules’

“It’s hard for the U.S. to say we don’t agree with what you’re trying to do because I think politically that would look bad,” said Mark Borges, a principal at Compensia Inc., a Corte Madera, California-based compensation consultant. “The U.S. might say they’re willing to sign on to the principles the G-20 is trying to establish, but when it comes to implementing those principles we have our own set of rules.”

U.S. bank employees at 28 of the largest holding companies may face curbs on their pay under proposals being considered by the Federal Reserve. The plan is at the core of the Obama administration plan to let the Fed monitor risks to the financial system, according to people familiar with the matter.

European leaders have been outspoken on pay remedies since the onset of the financial crisis.

‘Bubble Burst’

“The bonus bubble burst tonight,” Swedish Prime Minister Fredrik Reinfeldt said Sept. 17 after the European Union agreed that the G-20 should adopt binding rules on bonuses backed by the threat of sanctions.

Linking bonuses to bank capital might be the way to curb compensation, said Sarkozy, who has softened his rhetoric as the summit approaches.

“The idea of raising capital requirements in proportion with speculative activities, which are generating these so- shocking bonuses, seems a more efficient capping method,” he said after the EU meeting.

Mario Draghi, chairman of the Financial Stability Board, a group of bank regulators asked by the G-20 for proposals before the summit, said Sept. 14 that regulators are within their rights to limit banker bonuses and salaries.

“It used to be they were told it was a private contract,” said Draghi, governor of the Bank of Italy. “It’s now quite clear that when compensation is not aligned with risk-taking incentives, regulators have the right to have their say.”

U.S. officials, including Obama, advocate policies that focus on practices rather than setting specific pay ceilings.

‘Best Check’

Shareholders are the “best check” on pay practices, and government shouldn’t dictate standards when firms avoid taking taxpayer funding, Obama told Bloomberg News on Sept. 14. “You have to start asking yourself: ‘Well, why is it that we’re going to cap executive compensation for Wall Street bankers but not Silicon Valley entrepreneurs or NFL football players?’”

The rhetoric reflects “a philosophical difference between the way Europe considers markets and how the U.S. considers markets,” said Paul Hodgson, a senior research associate on compensation at the Corporate Library in Portland, Maine.

The summit presents an opportunity to push through changes that may become increasingly difficult to make, Hodgson said. “As the economy begins to recover and banks start to make money, the strength of the position that things need to change weakens,” he said.

Kenneth Feinberg, Obama’s “special master” on executive pay, is to rule this year on pay proposals from New York-based Citigroup Inc., Bank of America Corp. in Charlotte, North Carolina, and five other companies that received U.S. aid more than once in the past year.

The House in July passed a bill letting regulators ban Wall Street incentive pay that encourages excessive risk-taking. The bill authorizes bank agencies and the Securities and Exchange Commission to bar practices that threaten the sustainability of financial companies and “could have serious adverse effects on economic conditions.” The bill may fail in the Senate, which has been reluctant to expand government’s role on compensation."

G20 says no large bonuses for poorly capitalized firms

Banks with low levels of capital will not be able to offer large bonuses under guidelines the G20 is set to discuss this month, the Financial Stability Board said on Tuesday.

“It’s important that firms conserve profits so they can rebuild capital and support lending,” FSB Chairman Mario Draghi told a news conference.

“We will have a link between total bonus pool and the firm’s overall performance,” Draghi said.

An FSB official said the board will issue detailed guidelines at the G20 summit this month in the United States on how financial firms should structure pay packets.

French President Nicolas Sarkozy and German Chancellor, Angela Merkel want limits on the actual level of bonuses amid public anger over huge payouts at a time when vast sums of taxpayer cash are still propping up the sector.

“We must make sure that the bankers of this world can never again get up to such things at our cost,” Merkel said on Tuesday.

She vowed to push for the adoption of “clear rules” to prevent bankers from burdening the economy again when she travels to Pittsburgh for th=e G20 summit on Sept. 24-25.

The FSB signaled limits would be imposed indirectly by giving undercapitalised banks little wiggle room to make huge payouts.

“We are addressing the need for firms to retain resources,” the official said.

“That affects share buybacks, payout rates, bonuses. That implies limitations on the rate of compensation pool in relation to total revenue of the firm for a period of time until the capital resources have been restored,” the official added.

The board, made up of central bankers, regulators and finance ministry officials from the G20 group of industrial and emerging market countries, was meeting on the anniversary of the Lehman Brothers investment bank crash which brought the global financial system to its knees.

Brown to allow regulators to ‘tear up’ bonus agreements

"U.K. Prime Minister Gordon Brown’s government will next week announce plans to make some bankers’ bonuses illegal as it tries to clamp down on the excessive risk- taking that helped stoke the financial crisis.

Regulators will be given “powers if necessary to tear up contracts that would result in payments being made that would cause instability,” Chancellor of the Exchequer Alistair Darling told the Sunday Telegraph. Speaking on Sky News, City Minister Paul Myners said “if those contracts are written, they will be voided under law.”

Brown, who has trailed in polls for almost two years and must call an election by June, will set out his goals for the next session of parliament with the Queen’s Speech on Nov. 18. The proposals will also reverse a plan to cut a tax break on childcare, allow consumers to make class-action lawsuits against lenders and require banks to have a plan for winding down operations if they run into trouble, The Sunday Times said.

Brown’s Labour Party will have about five months to pass the legislation before the election interrupts Parliament. The Queen’s Speech will last about 20 minutes, half the length of last year’s address, the News of the World reported today.

Myners said that he is “sure” the financial services bill will be passed.

“We’re not seeking to cap absolute levels of bonuses,” Myners said. “We want to make sure that bonus arrangements no longer contribute to excessive risk-taking” and that “we have a framework in which the taxpayer will never again have to step in and provide capital to support the banking industry.”

Bankers’ Warning

The British Bankers’ Association warned Brown that new proposals shouldn’t discourage banks from coming to Britain to expand or set up business.

“We clearly need to see the detail of these proposals but we would be wary of any actions which set the U.K. at a disadvantage, discourage international businesses from coming here and make it more difficult to attract, reward and retain high quality staff,” according to an e-mailed statement.

The opposition Conservatives increased their lead to 14 percentage points from 11 points a month ago, according to a YouGov Plc poll published in the Times today. The Labour Party had the support of 27 percent of Britons, the Conservatives had 41 percent and 18 percent of voters backed the Liberal Democrats.

Speaking in a podcast recording yesterday, Brown said he’s trying to prevent taxpayers having to foot the bill for any future banking bailout.

“This means a transformation of the way the financial sector is policed, with banks themselves and not the taxpayer made to pay for bank failings,” he said.

Brown Joins Merkel, Sarkozy on rules for bonuses

" U.K. Prime Minister Gordon Brown joined German Chancellor Angela Merkel and French President Nicolas Sarkozy in calling for Group of 20 leaders to impose global rules on bonus payments awarded by banks.

The leaders of Europe’s three biggest economies said bonuses must have an “appropriate” relation to fixed salaries and be linked to banks’ performance.

“The G-20 must transform these principles into binding rules” and put in place “sanctions” against banks that refuse to accept the regulations, they wrote in a letter sent to the European Union’s current president, Swedish Prime Minister Fredrik Reinfeldt.

The letter, which says a “strong” EU stance will be decisive in ensuring the success of the Sept. 24-25 G-20 summit in Pittsburgh, steps up pressure on President Barack Obama and other world leaders to reform the system of bonus payments that Merkel said on Aug. 31 “drives a lot of people up the wall.”

“Even the British understand the need to regulate,” Sarkozy said in a speech today in Caligny, western France.

When bankers are paid in stock options, they can exercise those options only after “a specific period,” the three write, without giving a timeframe. Guaranteed bonuses should be avoided and payments should be spread out over a set period with the option of withholding them if the bank’s performance is poor. Remuneration committees must be set up to monitor pay, they say.

‘Deeply Shocked’

“Our citizens are deeply shocked at the revival of reprehensible practices, despite taxpayers’ money having been mobilized to support the financial sector at the height of the crisis,” the leaders write. The Pittsburgh summit needs to address compensation to demonstrate “our commitment to build a more stable financial system.”

As well as regulating bonuses, Merkel and Sarkozy said at a joint news briefing in Berlin on Aug. 31 that they will press the G-20 to limit the size of banks and require lenders to set aside more capital to avoid a repeat of the financial crisis that has caused global writedowns and losses of $1.6 trillion. G-20 finance ministers meet in London on Sept. 4-5 before the G- 20 summit. Brown will meet with Merkel in Berlin Sept. 6.

EU finance ministers meeting in Brussels yesterday agreed to push for tighter rules on bank bonuses as they prepared a common stance on overhauling the financial system.

Authorities need “stronger muscles and sharper teeth,” Swedish Finance Minister Anders Borg said after leading the meeting. French Finance Minister Christine Lagarde said she was optimistic that all 27 EU governments will support proposals she brought to yesterday’s meeting to curb bonus pay at banks. The options included an outright cap on bonuses, limiting them as a percentage of total pay, and taxing them, she said.

In a briefing in Washington yesterday, U.S. Treasury Secretary Timothy Geithner said that reining in executive compensation is “a critical part of our broader reform agenda.”

“If you look at what’s happening across Europe, like in many of these areas, there’s a lot in common in terms of basic strategy,” Geithner said. He declined to comment on specific changes sought by his counterparts, saying he had not yet had detailed discussions on the policy proposals."

Euro leaders "Pledge to end 'bank bonus party'"

Source: Pledge to end 'bank bonus party' BBC, September 2, 2009

Several European finance leaders have been outlining their goal to end the culture of excessive banker bonuses.

The issue will be discussed by G20 finance ministers this weekend and will also feature in the full G20 meeting in Pittsburgh later this month.

But observers say it is not an issue on which consensus will be easily reached.

The UK is an opponent of major curbs on bonuses, with Prime Minister Gordon Brown preferring they be geared towards long-term success.

Status protection

France is proposing a series of mandatory caps on bonuses - which the head of the Eurogroup of eurozone finance ministers, Luxembourg's Jean-Claude Juncker, said he "totally supported".

However, it has been acknowledged that the UK must be persuaded to give its support if French President Nicolas Sarkozy's desire to push through strong G20 regulation on the issue is to succeed in Pittsburgh.

Sarkozy threat to shun banks on pay draws U.S. alarm

Source: Sarkozy Threat to Shun Banks on Pay Draws U.S. Alarm Bloomberg, August 26, 2009

French President Nicolas Sarkozy’s plan to shun bankers who don’t accept pay limits was met with alarm by analysts and investors in the U.S., where Citigroup Inc. and six other bailed-out companies are being grilled by the government on how they compensate top-paid executives.

“I find Sarkozy’s statements threatening,” said Bruce Foerster, president of South Beach Capital Markets in Miami and a former Lehman Brothers Holdings Inc. executive.

France won’t hire financial firms unless they apply rules agreed to by French bankers that include a three-year deferral on two-thirds of bonus payments, Sarkozy said yesterday. He aims to bring his proposals to the Group of 20 summit in Pittsburgh next month, which President Barack Obama is scheduled to attend.

Sarkozy is “coming to Pittsburgh and is going to be whispering in the ear of a president who has shown some willingness to listen to that kind of thinking,” Foerster said. “President Obama has made a lot of scathing comments about banks and bankers’ compensation.”

Obama has asked his “special master” on pay, Kenneth Feinberg, to establish pay guidelines for executives at the rescued companies, which also include Bank of America Corp. and General Motors Co. The measures aim to reduce incentives that led executives to take excessive risks and to quell a political outcry over bonuses paid at American International Group Inc., whose compensation practices are also under review by Feinberg, who didn’t return a call for comment yesterday.

Contracts Revised

White House spokesman Tommy Vietor declined to comment.

The looming rulings from Feinberg, who has about two months to respond to the pay proposals, have prompted companies including Bank of America and Citigroup to add clauses into some new employment contracts stating that some compensation may be subject to government approval or limitations, according to a person familiar with the contracts.

“This is a good way for the corporation to save face if it’s challenged by the government, being able to say we looked into this and took this into consideration,” said Thomas B. Lewis, a lawyer at Stark & Stark in Princeton, New Jersey. “It’s probably only going to come into play with the very high- wage earners.”

Bonus in Shares

In France, institutions including BNP Paribas SA and Societe Generale SA agreed to the deferral and promised to pay out a third of bonuses in shares. They also pledged to stop offering guaranteed payouts to new hires.

Sarkozy said he wants the G-20 to consider capping the total amount paid out by banks in bonuses and to consider setting limits on the size of individual bonuses. The meeting in Pittsburgh follows one held in London in April, when the group promised tighter rules on pay for bankers.

“I will fight in Pittsburgh to amplify the commitments made in London,” Sarkozy said. “The problem is global and has to be treated globally. France won’t accept the most minimal position or wait to act.”

German Chancellor Angela Merkel said today she supports Sarkozy’s plan of extending the payment of bonuses over time and his call for tougher limits. She said the two leaders will discuss the matter next week before the G-20 summit.

“Bonuses will be a central topic, because it’s annoying that some banks are continuing to do things almost exactly the way they did before,” Merkel said in an interview with N24 television today. “It promotes risk. That’s why we need to think about how we can intervene and set limits.”

‘Political Comment’

Sarkozy’s demands will be difficult to enforce globally, said Charles Geisst, a professor of economics and finance at Manhattan College and author of “Wall Street: A History.”

“It’s an interesting remark,” Geisst said. “I sort of take that on the shady side of the street, as a political comment.”

Sarkozy says he wants France to “set an example” on banker pay. That means applying political pressure on leaders such as U.K. Prime Minister Gordon Brown and President Obama to follow suit.

“If they refuse to do the same thing as us, they’ll have to explain it to their citizens,” said Rene Ricol, who Sarkozy made an ombudsman last year to ensure the banks keep lending.

Almost 8 in 10 Britons criticized proposals by the Financial Services Authority to restrict pay, a poll by YouGov Plc showed.

“We’ll be the first to do this,” French Finance Minister Christine Lagarde said today on RMC radio. “If we don’t take the initiative, no one will.”

Barclays, HSBC

Sarkozy’s government, which plans a record 155 billion euros ($216 billion) of debt sales this year, regularly hires foreign banks to sell bonds and arrange other transactions.

France hired Barclays Plc and HSBC Holdings Plc to help manage its only syndicated bond issue this year, a 6 billion- euro offering of 30-year notes on June 23, according to data compiled by Bloomberg. The deal was also managed by BNP Paribas, Credit Suisse Group AG and Societe Generale.

“This is demagoguery run amok,” said Michael Holland, who oversees more than $4 billion at Holland & Co. in New York. “If the best and most qualified bankers go to places where they are compensated for their work, it means that Sarkozy will be doing business with only those that don’t have the highest degree of excellence.”

Swiss regulate bankers’ pay to curb risk-taking

"Switzerland’s biggest banks and insurers will have to adhere to new compensation rules requiring them to defer the bulk of managers’ bonuses and to strictly align pay to performance, Swiss regulators said on Wednesday.

With the new rules, Switzerland is joining a growing number of countries that are choosing to regulate the way top bankers are paid to discourage risky investment decisions inspired by short-term gains rather than sustainable profitability.

The new Swiss rules will come into force on Jan. 1, 2010 for the country’s seven largest banks and five biggest insurers, Swiss regulator FINMA said in a statement without naming them.

There will be no cap on executives’ bonuses, FINMA added.

“The experience of last year has showed us that compensation schemes play a role in the risk management of financial institutions,” FINMA said in its statement.

“Remuneration schemes can create false incentives which may lead to inappropriate risks being entered into, threatening the business and profitability of a financial institution and, at the end of the day, its stability,” it said.

The Swiss regulator also said it would welcome the introduction of clawbacks on bonuses when performance was poor, such as it is already the case with the country’s top two banks UBS and Credit Suisse.

Leaders from the Group of 20 nations adopted guidelines on curbing bonuses at meeting in Pittsburgh in September.

Credit Suisse unveiled already last month a new compensation scheme that it said would fully comply with new G20 standards.

UBS, which received state aid as it was hit by the subprime crisis last year, has said in an internal memo seen by Reuters it also plans to change its compensation structure, but has not yet unveiled its new pay structure. [ID:nLR11973]

UBS’ hefty bonuses and salaries of bank managers caused public outcry in Switzerland, leading former UBS chief Marcel Ospel and other ex-board members to return 33 million Swiss francs ($32.71 million) in payments.

UBS was also sharply criticised earlier this year for increasing bankers’ pay after having received state aid, but its then newly-appointed new Chief Executive Oswald Gruebel said UBS had to pay market level salaries to retain stuff at a difficult time.

UBS "claws back" $282M of bonuses

- UBS AG’s loss in 2009 will trigger the bank’s bonus claw back mechanism for the first time, depriving senior bankers of 300 million Swiss francs ($282 million) of deferred pay they were due to receive this year.

The Swiss bank introduced last year a plan that would pay 900 million francs to managing directors, executive directors and directors in equal parts in 2010, 2011 and 2012. The lender yesterday posted a 2.74 billion-franc loss for 2009, compared with a loss of 21.3 billion francs for the previous year.

“The critical condition, a net profit for 2009 according to International Financial Reporting Standards, was not met,” Chief Executive Officer Oswald Gruebel said in a memo to employees dated yesterday.

Politicians are stepping up pressure on banks to curb bonuses after pumping in trillions of dollars to bail out firms during the credit crisis. Zurich-based UBS received a 6 billion- franc investment from the Swiss government after amassing more writedowns and losses than any other European lender. The government sold its stake in August, earning a 1.2 billion-franc profit.

“Bank salaries and bonuses are politically influenced and have become a controversial public topic as never before,” Gruebel said. “That’s why we raised the proportion of deferred share-based variable compensation for higher-paid colleagues. These decisions make possible equitable compensation as well as the coupling of bonuses to the long-term success of our firm.”

UBS is paying out 2.9 billion francs in cash bonuses for 2009, 34 percent more than the previous year. The bonus pool was cut by the decision to defer a greater proportion of variable compensation into future years, Chief Financial Officer John Cryan told analysts and reporters yesterday.

UBS yesterday posted its first quarterly profit in more than a year, helped by lower charges on its own debt and a tax credit. Gruebel, in the memo, reiterated that profit targets announced in November for the next three to five years, including reaching an annual pretax profit of 15 billion francs, are “realistic” and “reachable.”

French bankers accept restrictions on bonuses

Source: French Bankers Accept Restrictions on Bonuses New York Times, August 25, 2009

"President Nicolas Sarkozy of France on Tuesday announced steps, agreed to by bankers, to curb excessive compensation in the industry as he pledged to push for tighter international rules at a meeting of global leaders next month.

“It’s too easy to say we’ll do nothing because others aren’t,” Mr. Sarkozy said. “France must lead and try to persuade the others.”

After a meeting with government officials, representatives of leading French banks agreed that bankers would repay part of their bonuses if the performance of the bank, or of a trader’s team, deteriorated. Under the agreement, up to two-thirds of bonus payments should be deferred, while a third should be paid in shares of the bank.

“From now on, the trader must wait three years to cash in all of their bonus and if in the two years following, their activity loses money, he will not have his bonus,” Mr. Sarkozy said.

The accord allows the French president to place himself in the vanguard of the fight against excessive rewards before a Group of 20 summit meeting in Pittsburgh in late September, where Mr. Sarkozy would like to see a global limit set on bonus payments, and sanctions for transgressors."

Source: France cracks down on bank bonuses Times Online, August 25, 2009

"Traders could face financial penalties for loss-making investments under a proposal put forward by French bankers at a meeting with President Sarkozy today.

Baudouin Prot, the chief executive of BNP Paribas, France's biggest financial institution, unveiled the so-called bonus-malus scheme after hearing Mr Sarkozy say French banks had betrayed him over traders' pay. Under the plan - which Paris wants to see adopted internationally - traders will forego their right to bonus payments if they run up losses for their banks.

Staff will not only be linked to the profits of their establishments but also to the possible losses, said Mr Prot.

The difficulty is that this system cannot be put in place in just one country.

Mr Sarkozy appears likely to press leaders of other industrialised nations to adopt the bonus-malus principle at the G20 meeting in Pittsburgh next month.

Under the proposal, two-thirds of traders' bonuses will be withheld for a period of up to five years. If the investments turn out to be loss-making, the deferred part of the bonus will be cancelled, Mr Sarkozy said.

No bonus without a malus, he added

A day after returning from a Mediterranean holiday with Carla Bruni, his wife, Mr Sarkozy summoned banks to his Élysée Palace in a bid to appease public anger over pay and loans.

In a move designed to give France the moral high ground ahead of the G20 meeting, he told banks they would be blacklisted by the State if they failed to respect a code of conduct over bonuses.

He said they could be stopped from handling privatisations and other government business.

We have to be categorical. If there are banks which don't respect the rules of the game agreed internationally, the authorities mustn't hesitate about not working with them, said Frédéric Lefebvre, spokesman for Mr Sarkozy's Union for a Popular Movement.

The political authorities of our country are exemplary on the international scene. Our banks must be too.

Mr Sarkozy went on to call for measures to cap or tax bonuses to be adopted in Pittsburgh. He is to meet Angela Merkel, the German Chancellor, next week to seek to win her backing for either or both of the moves.

"These limits, everyone understands, can only be international. If we just decided to limit them in France everyone would leave," he said

The meeting with French banks was called amid a row sparked by the revelation that BNP Paribas, the country's biggest financial institution, had provisioned €1 billion for bonuses.

It also comes amid signs that French banks are failing to meet a commitment to increase lending by at least three per cent following a €21 billion government bail-out.

A spokesman for Mr Sarkozy said he felt betrayed by bankers and was determined to bring them to heel.

In the face of the presidential fury, BNP Paribas agreed to halve its provision for bonuses to €500 million."

Australia proposes "executive clawback"

"EXECUTIVES who deliberately mislead shareholders on a company's financial position will have to repay bonuses under a federal government proposal.

The move will toughen Productivity Commission findings on how to stem corporate greed and risky pay deals in the wake of the global financial crisis.

The federal government yesterday backed all but one of the measures recommended by the commission to improve transparency and accountability in executive pay, including a two strikes rule that business groups oppose.

The Australian Institute of Company Directors said the government had gone too far and the measures would add unnecessary regulation that would disrupt companies.

But Financial Services Minister Chris Bowen said the government was responding to community anger and, as well as strengthening measures to stop executives voting on their own pay, would also consider a proposal to claw back money overpaid to directors and executives who had substantially misstated financial records.

Where a bonus is based on financial statements of a company and those financial statements are later shown to be incorrect, that there is no capacity for shareholders to claw back that bonus … I believe that is a potentially significant concern, said Mr Bowen.

While there had not been any known instances of this happening recently in Australia, it had been an issue overseas, he said.

The Australian Shareholders Association said the government's response on executive pay was encouraging and the clawback proposal was interesting. It's rare that you can actually prove that directors have materially misstated, said ASA policy and research manager Claire Doherty.

However, business groups were critical of the idea.

PricewaterhouseCoopers consulting partner Debra Eckersley said: While it is understandable that shareholders and the government feel it is unfair for executives to receive bonuses based on information that is found to be inaccurate, based on the limited detail, clawing back payments would be difficult to achieve in practice and unfair to individuals who had no role in the misstatement.

Institute of Company Directors chief executive John Colvin said a clawback provision would interfere with companies offering competitive contracts to executives, and could backfire if companies decided to instead boost base pay. Business Council of Australia president Graham Bradley said the government's response overall was a reasonably balanced approach to what has been a sensitive issue for the community.

But he said consultation was needed on the clawback rule to ensure it did not reduce the flexibility business needed to attract staff in a global market.

Australia finalises position on remuneration

The Australian Prudential Regulation Authority (APRA) has today released its prudential requirements on remuneration for authorised deposit‑taking institutions (ADIs) and general and life insurance companies.

APRA participated in the Financial Stability Board’s initiative on executive remuneration, which culminated in G20 endorsement in April this year of its Principles for Sound Compensation Practices. APRA’s approach follows these principles.

The relevant industry governance standards (APS 510, GPS 510 and LPS 510) and an associated prudential practice guide (PPG 511) have now been published, along with a response paper to the second round of consultation that explains further modifications made in response to submissions and other feedback.

APRA received 19 submissions during the second consultation period and met with a number of interested parties to explain the proposals and gather feedback. Many submissions again broadly supported APRA’s approach, recognising that poorly structured remuneration practices may result in excessive risk-taking by individuals and can undermine the risk management systems of prudentially regulated institutions.

APRA Executive Member John Trowbridge said that ‘whilst APRA’s approach remains unchanged in principle, we have revised some aspects of the remuneration requirements on the basis of this second round of consultations. For example, some details in relation to foreign branches and to the coverage of different groups of persons have been modified. The changes will assist in the implementation of APRA’s remuneration requirements while still enabling boards to design remuneration arrangements that suit the circumstances of their own institution’.

APRA‑regulated institutions will be expected to conform to the intent and the substance of the remuneration requirements. Where APRA judges that the remuneration arrangements of a regulated institution are likely to encourage excessive risk‑taking, APRA has several supervisory options, including the power to impose additional capital requirements on that institution.

The revised governance standards will come into effect on 1 April 2010. By this date, APRA requires that the Board Remuneration Committee, with appropriate composition and charter, will be established and a suitable Remuneration Policy will be in place. APRA expects regulated institutions to use the period before 1 April 2010 to begin the transition for existing remuneration arrangements that would not meet the revised standards.

The response paper, the prudential standards and the prudential practice guide can be found on the APRA website at

Walker Report says name "millionaire earners"

"Banks will be forced to reveal how many of their employees earn more than £1m a year under new laws expected to show that hundreds, perhaps thousands, of City bankers are made millionaires each year.

But in introducing legislation to adopt the key recommendations of the City veteran Sir David Walker in his 167-page report published today, the government will allow banks to keep the identity of "high-end earners" secret. Ministers had suggested the top 20 highest-paid employees should be named and shamed.

Walker, who has been reviewing corporate governance at banks since February, will disappoint those who believe the pay levels should be revealed for the current financial year, as he is not expecting the ground-breaking changes to be implemented until 2011.

He insists, though, that he is creating "a more demanding regime than that currently in place in any other major jurisdiction". Asked how many people would be revealed as earning more than £1m, he said: "Hundreds, if you are asking me, certainly, but possibly thousands.

Alistair Darling, the chancellor, welcomed the report, which calls for shareholders to adopt a new code of stewardship. He intends to call major investors to the Treasury to demand compliance.

Tonight he said: "One of the fundamental causes of the financial crisis was bad management of some our major banks. Too many people around board tables did not ask the right questions; some chief executives did not fully understand the risks being taken by their traders; pay and bonuses encouraged reckless risk-taking instead of responsible behaviour.

"Tougher regulation will help to make our system safer. But the culture of the banks themselves must change."

UK's FSA authority to veto bonuses

Time for bankers to justify their huge pay, Lord Myners says

"Lord Myners today launched a stinging attack on the bonus culture in the City, urging bankers to think about the "perceived fairness" of their multimillion pound payouts.

Using the strongest language deployed yet by a Treasury minister, Myners hit out at footballer-style rewards for bankers and questioned why some are paid bonuses of more than £10m.

Myners said: "Derivative traders are not footballers with unique talents, and should not be paid as though they are.

"Behaviours judged as reckless and self-serving on the high street must not be rationalised as acceptable on trading floors," Myners said.

In a speech to a stunned City audience, he challenged pay structures in every part of an investment bank, from traders to mergers and acquisitions bankers to those involved in equity underwriting and broking.

"It is time for banks to explain to the public what contributions justify the ever-growing rewards of derivatives traders, speculators and other inhabitants of the so-called casino end of the industry. Where those justifications cannot easily be made, tough questions need to be asked by boards and shareholders," Myners said.

He questioned the efficiency of the City's labour market, where 50% of profits are often handed out in bonuses. In an efficient market, the opportunity to earn £10m should have encouraged more people to work in the City and the increase in supply of labour should have brought down wages.

"Why hasn't the market mechanism adjusted pricing? What is frustrating a logical market response? If the market was working rationally, rewards should have led to a sharp increase in supply and downwards pressure on margins," Myners said.

With regard to proprietary trading, where banks use their own money to take gambles on markets, Myners said: "Do these employees really have unique talents, or are they largely reliant on the banks' capital and franchise, and the banks' knowledge from order flow?" he said."


In Australia, shareholders can vote against the pay rises of board members, but the vote is non-binding.[2] Instead the shareholders can sack some or all of the board members. [3]

  • The Commission's discussion draft on Executive Remuneration in Australia was released on 30 September 2009 for comment by the Australian Government Productivity Commission.
  • CAMAC Market Integrity Report Key recommendations: Jan Redfern, Consultant at Sparke Helmore, AU law firm, 12 Aug 2009 (audio file -- 9 minutes)
  • Good pay practices: the buck must stop with the board, Sydney Morning Herald, Allan Fels, October 1, 2009

Chief executive pay has risen by more than 250 per cent in real terms since 1993, though it fell 140 per cent in 2007-08. It has risen from 18 to 50 times average weekly earnings, fuelling community concerns.

As well as notable individual cases of excess, there have been some periods of apparent general excess, especially in the 1990s, when executive pay was introduced.

Even so, chief executive pay in Australia is well below that in the United States, Britain and Germany for comparable companies, and in line with smaller European countries. And much of the rise can be attributed to the effects of globalisation and increased company size. For example, BHP Billiton's market capitalisation rose from $16 billion in 1989 to $244 billion today.

As a rough guide, the Productivity Commission found that a 10 per cent change in the size of the firm correlates with a 4 per cent change in chief executive pay upwards (and, probably, downwards).

But not all pay is explained by size. Most of the pay rises are accounted for by the introduction of incentive pay since the 1990s. (The impact of incentives on base pay is somewhat unclear.)

Is there a link between pay and performance? The commission has concluded there are some indications that incentive pay has been well designed. Incentive pay rises have broadly correlated with overall market returns; options and hidden company loans do not happen to the same extent as in the US; incentives increasingly have been linked to shareholder returns relative to comparable companies rather than to rises in share values generally (to that extent removing reward for good luck); boards of larger companies are relatively independent and far more free from conflicts of interest than in the US; the regulation of governance of pay even now is somewhat tighter than in most countries.

On the other hand, not all companies meet best-practice; there have been some excessive termination payments; incentive pay, especially in its early years, quite often has been poorly designed; today it can be excessively complex and unlikely to achieve useful objectives; it may also have encouraged short-termism; and, overseas at least, it has encouraged excessive risk-taking in the financial sector.

From a shareholder and a community perspective, there have been sufficient problems to warrant substantial government action to minimise the chances of the recurrence of any excesses as the economy recovers. The solution, however, is not to directly regulate by setting pay caps as President Nicolas Sarkozy has proposed. (He would do better by reforming corporate governance in France - it ranks very low by world standards.)

Caps are superficially appealing but they are impracticable and could have undesirable effects on recruitment, especially from international sources. What is needed is stronger regulation of corporate governance, especially by increasing shareholder power.

A key recommendation by the commission is to strengthen shareholder votes on pay, which at present are non-binding (although quite influential). Such votes should have consequences. If 25 per cent of shareholders vote negatively on a pay report, the board should report back at the next annual general meeting. If there is a further negative vote at that meeting, all board positions should be up for election soon after (or at the next AGM).

A "two strikes and you're out" policy would put boards under pressure to manage executive pay very carefully.

A second key recommendation is that non-directed proxy votes should not be voted by directors or executives on pay matters. At present, undirected proxy votes controlled by directors tend to swamp the votes of interested shareholders and institutions.

Taken together, these measures would strengthen the position of shareholders. Importantly, however, they would not usurp the role and responsibility of the board for determining executive pay. The buck must remain with the board if good pay practices are to be observed.

These days, boards are generally more careful about pay, and Australia's standards of corporate governance are very high in world rankings.

However, we need to avoid some conflicts of interest. First, remuneration committees need to be fully independent. The remuneration committees of most bigger firms are already largely independent, but quite a few smaller ones are not. Second, executives and directors should not vote on their own pay.

Remuneration consultants have a valuable role to play in providing expert advice. The Productivity Commission believes, however, they should always be employed by boards, not by the executives who are beneficiaries of their recommendations. Any other relationships consultants have with a firm should be declared by the board in its annual remuneration report.

Institutions should be more accountable for their voting. They should be forced to disclose annually how they have voted on all pay votes.

Australian pay excesses are considerably less than in the US, and our standards of corporate governance are higher. But we need to ensure that there are no more periods of general excess; otherwise, community concern with corporate Australia will continue to be high. If it loses confidence, it will damage investment and social cohesion

Germany - Bafin

Source: Germany’s bonus ultimatum to bankers August 14 2009, Financial Times

German bankers could be forced to repay bonuses if it transpires they have taken unjustifiable risks when making deals, the country’s financial regulator warned on Friday.

Bafin, the regulator, unveiled a set of risk management standards in response to the excessive risk taking and false incentives, which policymakers agree contributed to the financial crisis.

Outcry at bankers’ bonuses is widespread in Germany, where the financial crisis confirmed a public suspicion of so-called “Anglo-Saxon” financial engineering. The corporate sector is best-known for family-owned companies that take a long-term outlook, while the bonus culture of banking was anathema to many Germans.

From January 1 all German banks will be obliged to implement new pay structures that outlaw short-term incentives.

Compensation must instead be geared towards the long-term success of the whole bank so that “the wellbeing of the employee and the wellbeing of the institution are connected”.

“Excessive pay and false incentives for excessive risks can no longer be allowed,” Peer Steinbrück, the finance minister, said. “Banking supervisors have rightly put the spotlight on compensation rules.”

The new guidelines comprise Germany’s response to the recommendations that the Financial Stability Forum (now Board) presented to the London G20 summit in April, and which leaders approved.

The Financial Services Authority in Britain was criticised this week for saying it would consider backtracking on newly announ ced compensation guidelines if other international regulators failed to follow.

Angela Merkel, Germany’s chancellor, will press leaders to go further at the next G20 summit in Pittsburgh in September by implementing a global charter for sustainable economic development.

Bafin’s new guidelines strengthen the obligation of banks to carry out stress tests according to each institution’s identifiable risks factors. Meanwhile, banks will be obliged to flag up potential liquidity problems so they are recognised early.

Germany regulators are sensitive to this type of risk after a liquidity shortfall within Hypo Real Estate last year left the property and public sector lender on the brink of collapse

The government had to commit more than €100bn ($142bn, £86bn) of taxpayer- support and has since largely taken over the bank.

In approving emergency legislation last year to help the financial sector, Berlin forced all banks needing state recapitalisation to give up paying bonuses and limit salaries for top executives to €500,000.

"Comply or explain"

Source: The Need for a Principled Approach to Compensation Reform The Harvard Law School Forum on Corporate Governance and Financial Regulation, August 22, 2009

"How would legislative reform introduce into the executive compensation system the principles that will allow executive compensation to contribute to long-term sustainable value? One approach is a ‘‘comply or explain’’ regime that has been used successfully in other jurisdictions (the United Kingdom, Canada, Australia, and South Africa to name just a few). The principles which should guide executive compensation plans and arrangements could be set out in a formal regulation with a requirement that boards of directors disclose to their shareholders annually how the executive compensation packages they have approved align with those principles—and if they do not, why they do not. This could be seamlessly integrated into the SEC’s existing executive compensation disclosure regime and would be a helpful enhancement for investors in connection with the increasingly common requests for advisory votes on executive compensation.

The principles themselves could draw heavily on the Aspen Principles and the related work done by other groups. In our view, the principles that must inform the development of any compensation plan promoting sustainable long-term value would include at least the following components:

  • the accountability of the board for executive compensation;
  • the independence of the compensation committee, or other directors charged with making executive compensation decisions;
  • disclosure that creates and maintains an environment of transparency to shareholders about compensation philosophy, policies, processes, and decisions; and
  • a long-term focus and appropriate features for mitigating excessive risk-taking.

We believe that legislation directed at promoting faithful adherence to these principles is preferable to any set of largely reactive and ad hoc prescriptive mandates, with their inevitable unforeseeable consequences. Such an approach will be well-received by the diverse constituencies that have an interest in the executive compensation debate and it should spark a much-needed (and informed) dialogue about the purpose and objectives of executive compensation and its relationship to enterprise value. Such a dialogue could go a long way to resolving the current criticisms, anxieties, and misunderstandings about executive pay.

Types of compensation

See more at Wikipedia Types of compensation

Why stock options are the best form of executive compensation

Here is the abstract:

Stock options are the primary form of compensation for CEOs because they are the best way to align the interests of CEOs with those of diversified stockholders. Nevertheless, critics argue that the use of stock options leads to excessive pay because there is no effective bargaining between the CEO and the board of directors about the number of options to award. They argue that the cost is underestimated by boards and hidden from stockholders and that options induce CEOs to undertake risky business strategies. None of these objections withstands scrutiny.

First, there is little reason to believe that options have resulted in excessive CEO compensation. Although CEO pay has increased dramatically in absolute terms, data show that total executive pay as a percentage of corporate income – including gain from the exercise of options – has remained quite stable since 1982. This is true even though equity compensation grew from a negligible amount to as much as 75% of CEO pay by the year 2000. It would thus appear that equity compensation has been substituted for cash compensation and that a larger share of aggregate pay goes to those who succeed in increasing stock price. Second, options are subject to powerful market forces that effectively control their use. Using options as compensation effectively requires a corporation to repurchase shares to control for dilution.

Because cash is scarce, there is a natural limit on the number of options that a corporation can grant. In addition, stock options confer significant benefits that are difficult to achieve with other forms of compensation. Aside from the fact that options induce corporations to distribute cash in the form of repurchases to control for dilution, options also convey significant information to the market about a company’s prospects, because the need to repurchase stock requires the company to estimate future cash flows in deciding how many options to grant.

Finally, options provide an unbiased incentive for acquisitions when appropriate and for divestitures when appropriate. Thus, options make sense for both growing companies and mature companies. Although other forms of incentive compensation may provide some of the same benefits as stock options, they are ultimately inferior to options. For example, restricted stock rewards the CEO who increases stock price, but it may also induce the CEO to engage in conservative business strategies designed primarily to avoid losses rather than generate gains, contrary to the interests of diversified investors. And the traditional bonus based on earnings may induce CEOs to grow the business by retaining cash and investing it in new but suboptimal ventures.

To be sure, stock options can be abused through such practices as timing and backdating. But these problems can be addressed by announcing option grants in advance of fixing the strike price. Moreover, it is quite easy to design an option that addresses the problem of overvalued equity and eliminates the incentive to maintain a stock price that is inappropriately high. By indexing exercise price downward, options can provide an incentive for CEOs to minimize losses in falling markets. In light of the numerous advantages of options as compared to other forms of incentive compensation, it appears that complaints about executive pay are based largely on ex post results. From an ex ante perspective, investors are not likely to object to options because with options the CEO gains only if and to the extent that stockholders gain.

Indeed, as a result of the use of options as compensation, it is arguable that the model of the corporation as one owned by the stockholders has evolved into something more like a partnership between stockholders and officers in which the officers work for an ownership share of the business. Under this model, the board of directors may be seen primarily as an arbiter between these two groups for purposes of dividing up the gain rather than as an active manager of the business. But even under the prevailing stockholder ownership model, it is the supposed duty of the directors and officers to maximize stockholder value. In practice, there are few situations in which that duty is enforced as a matter of law. Options fill the gap.


Many newspaper stories [4] show people expressing concern that CEOs are paid too much for the services they provide. In Searching for a Corporate Savior: The Irrational Quest for Charismatic CEOs, Harvard Business School professor Rakesh Khurana documents the problem of excessive CEO compensation, showing that the return on investment from these pay packages is very poor compared to other outlays of corporate resources.

Defenders of high executive pay say that the global war for talent and the rise of private equity firms can explain much of the increase in executive pay. For example, while in conservative Japan a senior executive has few alternatives to his current employer, in the United States it is acceptable and even admirable for a senior executive to jump to a competitor, to a private equity firm, or to a private equity portfolio company.

Portfolio company executives take a pay cut but are routinely granted stock options for ownership of ten percent of the portfolio company, contingent on a successful tenure. Rather than signaling a conspiracy, defenders argue, the increase in executive pay is a mere byproduct of supply and demand for executive talent. However, U.S. executives make substantially more than their European and Asian counterparts.

Shareholders, often members of the Council of Institutional Investors or the Interfaith Center on Corporate Responsibility have often filed shareholder resolutions in protest. 21 such resolutions were filed in 2003. [5] About a dozen were voted on in 2007, with two coming very close to passing. [6]

The U.S. Congress previously debated mandating shareholder approval of executive pay packages at publicly traded U.S. companies. [7]

There was much divergence in the world, in 2005, in the ratio of CEO's compensation to pay of manufacturing production workers. Source: (Landy, Heather, Behind the Big Paydays, The Washington Post, November 15, 2008)

  • U.S. --- with 39:1
  • Britain --- with 31.8:1
  • Italy --- with 25.9:1
  • New Zealand --- with 24.9:1

The U.S. Securities and Exchange Commission has asked publicly traded companies to disclose more information explaining how their executives' compensation amounts are determined. The SEC has also posted compensation amounts on its website. The Securities and Exchange Commission [8] to make it easier for investors to compare compensation amounts paid by different companies.

It is interesting to juxtapose SEC regulations related to executive compensation with Congressional efforts to address such compensation. (Kenneth Rosen, 76 Fordham Law Review 2907, 2007)

In 2005, the issue of executive compensation at American companies has been harshly criticized by columnist and Pulitzer Prize winner Gretchen Morgenson in her Market Watch column for the Sunday "Money & Business" section of the New York Times newspaper.

Unions have been very vocal in their opposition to high executive compensation. The AFL-CIO sponsors a website called Executive Paywatch [9] [10] which allows users to compare their salaries to the CEOs of the companies where they work.

In 2007, CEOs in the S&P 500, averaged $10.5 million annually, 344 times the pay of typical American workers. This was a drop in ratio from 2000, when they averaged 525 times the average pay. Source: (Landy, Heather, Behind the Big Paydays, The Washington Post, November 15, 2008.

To work around the restrictions and the political outrage concerning executive pay practices, banks in particular turned to using life insurance policies to fund bonuses, deferred pay and pensions owed to its executives. [11] [12]

Under this scenario, a bank insures thousands of its employees under the life insurance policy, naming itself as the beneficiary of the policy. Banks undertake this practice often without the knowledge or consent of the employee and sometimes with the employee misunderstanding the scope of the coverage or the ability to maintain employee coverage after leaving the company.

In recent times, a number of families became outraged by the practice and complained that banks should not profit from the death of the the deceased employees. In one case, a family of a former employee filed a lawsuit against the bank after the family questioned the practices of the bank in its coverage of the employee. The insurance company accidentally sent the widow of the deceased employee a check for $1.6 million that was payable to the bank after the former employee died in 2008. In that case, bank allegedly told the employee in 2001 that the employee was eligible for a $150,000 supplemental life insurance benefit if the employee signed a consent form to allow the bank to add the employee to the bank's life insurance policy. The bank fired the employee four months after the employee consented to the arrangement.

After that employee's death, the family collected no benefits from the employee life insurance policies provided by the bank, since the bank had canceled the employee's benefit after the firing. The family claimed that the former employee was "cognitively disabled" because of brain surgery and medical treatments at the time of signing the consent form to understand fully the scope of insurance coverage under the bank's master insurance benefit plan.

The practice of financing executive compensation using corporate-owned life insurance policies remain controversial. On the one hand, observers in the insurance industry note that "businesses enjoy tax-deferred growth of the inside buildup of the life insurance policy’s cash value, tax-free withdrawals and loans, and income tax-free death benefits to corporate beneficiaries." [13]

On the other hand, critics frowned upon the use of "janitor's insurance" to collect tax-free death benefits from insurance policies covering retirees and current and former non-key employees that companies rely on as informal pension funds for company executives. [14]

To thwart the abuse and reduce the attractiveness of corporate-owned life insurance policies, changes in tax treatment of corporate-owned insurance life insurance policies are under consideration for non-key personnel. These changes would repeal "the exception from the pro rata interest expense disallowance rule for life insurance contracts covering employees, officers or directors, other than 20% owners of a business that is the owner or beneficiary of the contracts."


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