Economic Stimulus Legislation Adds to Executive Compensation Restrictions for TARP Participants

February 20, 2009 at 4:58 pm Leave a comment

On February 17, 2009, President Obama signed into law the American Recovery and Reinvestment Act of 2009 (ARRA).  While many aspects of this “stimulus” legislation have been debated publicly for weeks, new executive compensation restrictions for financial institutions participating in the Troubled Asset Relief Program (TARP) were inserted just one day before the final congressional vote took place.  Unlike the Secretary of Treasury’s February 4th revisions to the TARP executive compensation rules, which are not retroactive, these new executive compensation restrictions will apply to all TARP participants, including those that have already received funding under TARP.  Here is a brief overview of these new restrictions.  

Restrictions on Golden Parachute Payments. ARRA bans any “golden parachute payment” to a TARP participant’s senior executive officers or any of the institution’s next five most highly-compensated employees for the entire period in which Treasury holds the institution’s preferred shares.  ARRA defines “golden parachute payment” broadly, covering any payment for departure from an institution for any reason, except for payments for services performed or benefits accrued.

This provision clearly targets the handsome severance packages received by chief executives at large, failing financial institutions.  Unfortunately, the law does not distinguish between such packages and standard retirement packages received by most workers in the broader economy.  Hopefully, in his rules implementing this provision, the Secretary of the Treasury will provide for such a distinction in his interpretation of the exception for “services performed or benefits accrued.”

Restrictions on Incentive Compensation.  Employees subject to ARRA’s incentive compensation restrictions will be banned from receiving or accruing any bonus, retention award or incentive compensation, other than long-term restricted stock (in an amount that does not exceed 1/3 of the executive’s total annual compensation and does not fully vest until the government is repaid) for as long as the U.S. Treasury holds preferred shares of his or her employer. 

Employees Subject to the Incentive Compensation Restrictions.  The applicability of ARRA’s incentive compensation restrictions is determined by a sliding-scale approach, with the number of covered employees within a given institution increasing proportionately with the dollar amount of Treasury’s TARP investment in that institution.

  • For institutions receiving less than $25 million under TARP, the compensation restrictions apply only to the most highly-compensated employee.
  • For institutions receiving between $25 million and $250 million under TARP, the compensation restrictions apply to the five most highly-compensated employees, and possibly more if the Treasury Secretary deems it appropriate.
  • For institutions receiving between $250 million and $500 million under TARP, the compensation restrictions apply to senior executive officers and at least the ten next most highly-compensated employees.
  • For institutions receiving more than $500 million under TARP, the compensation restrictions apply to senior executive officers and at least the 20 next most highly-compensated employees.

ARRA’s restrictions on bonuses do not affect the payment of a bonus required to be paid pursuant to a written employment contract executed on or before February 11, 2009. 

Additional Corporate Governance Provisions.  ARRA adds additional certification and corporate governance requirements.  For as long as the Treasury owns a financial institution’s preferred shares, the institution must:

  • Adopt a company policy on “excessive or luxury expenditures” that prohibits excessive expenditures on entertainment, office and facility renovations, aviation or other transportation services and other activities that are not reasonable expenses incurred in the normal course of business;
  • Recover any bonus, retention award or incentive compensation paid to a senior executive officer and any of the next 20 most highly-compensated employees based on statements of earnings, revenues, gains, or other criteria that are later found to be materially inaccurate, and implement the procedures;
  • Establish an independent compensation committee of the board of directors to meet at least twice a year to evaluate the risks posed by the institution’s compensation plans (this review can be conducted by the board of directors of private institutions receiving less than $25 million);
  • Submit annual certifications, signed by the institutions chief executive officer and chief financial officer, affirming the institution’s compliance with the additional executive compensation restrictions;  and
  • Ban compensation plans that would encourage earnings manipulation in order to increase the compensation of any employee.

Non-Binding Shareholders’ Resolutions.  Any financial institution receiving TARP funding must provide for a non-binding shareholder vote on the institution’s executive compensation packages.  ARRA does not create any additional fiduciary duties that would require the institution’s board of directors to honor the result of the shareholders’ non-binding vote.

Elimination of Redemption Restrictions.  ARRA allows financial institutions that have already issued preferred shares to redeem any preferred shares issued to the Treasury at any time, provided that the institution consults with its primary federal regulator before effecting the redemption.  This provision eliminates the three-year ban on redeeming TARP preferred shares from sources other than a subsequent private offering. 

Unresolved Issues.  Because these additional restrictions were added to ARRA near the end of the legislative process, their full impact has not been analyzed.  At first glance, it appears that the new restrictions will encourage financial institutions to move away from incentive-based compensation and to increase the guaranteed base salary of star performers and covered executive officers.  Moreover, it is unclear whether these restrictions will supersede or simply compliment the additional executive compensation restrictions issued earlier this year by the Secretary of the Treasury.  However, you can rest assured that the attorneys at Stinson Morrison Hecker LLP will continue to monitor these questions and follow future developments.
These latest executive compensation restrictions represent but a small sample of today’s constantly-evolving regulatory environment.  While many of these restrictions may seem like an unnecessary burden, the TARP program has attracted many participants and offers an efficient way to protect your institution’s capital reserves.  If your financial institution would like additional guidance on TARP or any other government liquidity program, such as the FDIC’s debt guarantee program, we have the requisite knowledge and expertise to help navigate your institution through the choppy waters of today’s marketplace.

Entry filed under: Client Alerts, Executive Compensation, FDIC, TARP.

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