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Executive Compensation: SEC Regulations
and Congressional Proposals
Michael V. Seitzinger
Legislative Attorney
September 2, 2009
Congressional Research Service
7-5700
www.crs.gov
RS22583
CRS Report for Congress
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repared for Members and Committees of Congress
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Executive Compensation: SEC Regulations and Congressional Proposals
Summary
Concern about shareholder value, corporate governance, and the economic and social impact of
escalating pay for corporate executives has led to a controversy regarding the practices of paying
these executives. On July 26, 2006, the Securities and Exchange Commission (SEC or
Commission) voted to adopt revisions to its rules on disclosure of executive compensation. On
December 22, 2006, the SEC announced that it had adopted changes to the July 26 rules. These
December 22 changes have become somewhat controversial, with opponents saying that they
obfuscate executive compensation and with proponents saying that the changes are necessary to
give a truly accurate picture of executive compensation.
Additionally, proposals have been made in the current and recent Congresses to limit executive
compensation and the amount of deferred compensation for tax purposes. In the 110th Congress,
two laws containing executive compensation provisions were enacted: P.L. 110-289, the Housing
and Economic Recovery Act of 2008, and P.L. 110-343, the Emergency Economic Stabilization
Act of 2008. Bills have also been introduced in the 111th Congress concerning limiting executive
compensation. In the 111th Congress, Title VII of P.L. 111-5, the American Recovery and
Reinvestment Act of 2009, sets forth restrictions on the compensation of executives of companies
during the period in which any obligation arising from financial assistance provided under the
Troubled Assets Relief Program (TARP) remains outstanding. The Secretary of the Treasury is
required to develop appropriate standards for executive compensation. A Board Compensation
Committee must be set up to review employee compensation plans. Any annual or other meeting
of the shareholders of a TARP recipient must permit a separate, nonbinding shareholder vote to
approve the compensation of executives. Bills have also been introduced in light of information
that American International Group, Inc. (AIG), was paying bonuses to a number of its employees
and executives. These bills would recover in a variety of ways the bonuses paid. In July 2009 the
House Committee on Financial Services circulated a discussion draft of H.R. 3269, the Corporate
and Financial Institution Compensation Fairness Act of 2009, which has four major parts: Say-on-
Pay, Independent Compensation Committee, Incentive Based Compensation Disclosure, and
Compensation Standards for Financial Institutions. On July 31, 2009, the House passed an
amended version of H.R. 3269. This report will be updated as warranted.
On March 3, 2009, the United States Supreme Court granted certiorari in Jones v. Harris
Associates, a case which challenges the fees charged by a mutual fund’s investment advisers as
excessive and a breach of fiduciary duty. Interest in this case from the executive compensation
angle centers on the possibility that the decision may foreshadow the Court’s reasoning as to what
may constitute excessive executive compensation.
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Executive Compensation: SEC Regulations and Congressional Proposals
Contents
SEC Regulations ......................................................................................................................... 1
Congressional Proposals ............................................................................................................. 3
Contacts
Author Contact Information ........................................................................................................ 8
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Executive Compensation: SEC Regulations and Congressional Proposals
oncern about shareholder value, corporate governance, and the economic and social
impact of escalating pay for corporate executives has led to a controversy regarding the
C practices of paying these executives. In a stated attempt “to provide investors with a
clearer and more complete picture of compensation to principal executive officers, principal
financial officers [and] the other highest paid executive officers and directors,”1 the Securities and
Exchange Commission (SEC or Commission) issued rules in 2006 concerning the disclosure of
executive compensation. The rules, however, have created a controversy of their own. Separate
from the SEC, Congress has also examined ways to address concerns relating to executive
compensation.
SEC Regulations
On July 26, 2006, the SEC voted to adopt revisions to its rules concerning disclosure of executive
compensation.2 These compensation disclosure rules were particularly focused upon companies’
providing investors with details about executives’ stock-option grants and corporate stock-option
programs. The rules required companies to prepare a principles-based Compensation Discussion
and Analysis section in their proxy statements, annual reports, and registration statements.3
In these July 26 rules, the Commission required companies “to make tabular and narrative
disclosure about all aspects of stock option grants and ... provid[e] additional guidance about the
disclosure of company stock-option practices.”4 The tables would have to contain such
information as the grant date fair value, the Financial Accounting Standards Board (FASB)
Statement of Financial Accounting Standards Rule No. 123 (FAS 123R) grant date, the closing
market price on the grant date if the closing market price is greater than the exercise price of the
award, and the date on which the board of directors or the compensation committee took action to
grant the award if the action date is different from the grant date.
On December 22, 2006, the Commission announced that it had adopted changes in its July 26
executive and director compensation disclosure rules “to more closely conform the reporting of
stock and option awards to Financial Accounting Standards Board Statement of Financial
Accounting Standards No. 123 (revised 2004) Share-Based Payment (FAS 123R).” The
amendment was made in the form of interim final rules that would become effective upon
publication in the Federal Register.5 The Commission went on to state that:
FAS 123R requires recognition of the costs of equity awards over the period in which an
employee is required to provide service in exchange for the award. Using this same approach
in the executive compensation disclosure will give investors a better idea of the
compensation earned by an executive or director during a particular reporting period,
consistent with the principles underlying the financial disclosure statement.6
The SEC briefly summarized some of the important provisions of the amendment as follows:
1 71 Fed. Reg. 78,338, 78,339 (December 29, 2006).
2 71 Fed. Reg. 53,158 (September 8, 2006), amending 17 C.F.R. Parts 228, 229, 232, 239, 240, 245, 249, and 274.
3 71 Fed. Reg. 53,158, 53,164 (September 8, 2006).
4 BNA, Daily Report for Executives, July 28, 2006, at G-7.
5 The interim final rules were published in the December 29, 2006, Federal Register at 71 Fed. Reg. 78,338.
6 Id.
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The dollar values required to be reported in the Stock Awards and Option Awards columns
of the Summary Compensation Table and the Director Compensation Table are revised to
disclose the compensation cost of those awards, before reflecting forfeitures, over the
requisite service period, as described in FAS 123R. Forfeitures are required to be described
in accompanying footnotes.
The Grants of Plan-Based Awards Table is revised to require disclosure of the grant date fair
value of each individual equity award, computed in accordance with FAS 123R, and the
Director Compensation Table required under Item 402 of Regulation S-K is revised to
require footnote disclosure of the same information.
The Grants of Plan-Based Awards Table is revised to require disclosure of any option or
stock appreciation right that was re-priced or otherwise materially modified during the last
completed fiscal year, including the incremental fair value, computed as of the re-pricing or
modification date in accordance with FAS 123R, and the Director Compensation Table
required under Item 402 of Regulation S-K is revised to require footnote disclosure of the
same incremental fair value information.7
These December 22 amendments have resulted in criticism by some investor groups. Investor
groups’ criticism has focused on what they believe to be the obfuscation of executive pay
packages. An example given is the following:
Say the Chief executive of American Widget gets a $24 million option grant on December 1
of this year, with the options vesting—meaning they may be exercised—over four years. He
is not eligible for retirement, perhaps because he joined the company only a few years ago,
or perhaps because he has not reached the company’s minimum retirement age of 60.
In the summary table, the value of that option will be shown as $500,000. That is because he
has worked just one month of the 48 months needed for the option to become fully
exercisable.
Over at National Widget, American’s main competitor, the chief executive gets an inferior
options package on the same day. It is worth $5 million, with the same four-year schedule.
But that executive is eligible to retire, although he has no intention of doing so. The
compensation summary will show he got a $5 million option.
The reality is that one man received options worth nearly five times what the other one was
awarded. The appearance is very different.8
On the other hand, some business groups claimed that the executive compensation disclosure
requirements as originally proposed by the SEC needed to be revised because they did not
provide a completely accurate picture of actual annual executive compensation.9
7 http://sec.gov/news/press/2006/2006-219.htm.
8 Floyd Norris, “Does S.E.C. Know What It Is Doing?” New York Times, December 29, 2006, at C1.
9 See, e.g., comments submitted to the SEC by Steve Odland, Chairman and CEO, Office Depot, Inc., and Chairman,
Corporate Governance Task Force, Business Roundtable, Washington, DC (April 10, 2006).
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Congressional Proposals
Congressional proposals concerning executive compensation may be classified into two broad
categories: additional disclosure of executive compensation to shareholders and limiting for tax
purposes the amounts deferred under a nonqualified deferred compensation plan.
An example of additional disclosure is H.R. 4291, 109th Congress. This bill would have amended
section 16 of the Securities Exchange Act of 193410 to require that each reporting issuer must
include in the annual report and in any proxy solicitation a comprehensive statement of the
issuer’s compensation plan for the principal executive officers, including any type of
compensation, the short- and long-term performance measures that the issuer uses for
determining compensation, and the policy of the issuer concerning other specified measures of
compensation. The proxy solicitation materials would have been required to have a separate
shareholder vote to approve the compensation plan. The bill would also have required the
disclosure of golden parachute compensation in any proxy solicitation material concerning an
acquisition, merger, consolidation, or proposed sale.
In the 110th Congress H.R. 1257, the Shareholder Vote on Executive Compensation Act, referred
to the House Committee on Financial Services, would have amended section 14 of the Securities
Exchange Act of 193411 to add a new subsection which would have required a separate,
nonbinding shareholder vote in any proxy or consent or authorization for an annual meeting to
approve the compensation of executives as disclosed in accordance with the SEC’s compensation
disclosure rules. Also in the 110th Congress there was a proposal which would have affected the
tax consequences of executive compensation. Section 206 of S. 349 would have added an
additional requirement to rules governing income inclusion of amounts deferred under a
nonqualified deferred compensation plan.
Also in the 110th Congress, S. 2866 would have amended the Internal Revenue Code to place an
annual limitation on aggregate amounts that could be deferred under nonqualified deferred
compensation arrangements. It would have amended section 304 of the Sarbanes-Oxley Act of
200212 to provide for a longer look-back period for reimbursement of compensation for
misconduct by an executive to the issuer. It would have amended the Securities Exchange Act of
1934 to provide during an annual meeting for a nonbinding shareholder vote on executive
compensation. It would have also amended the Federal Property and Administrative Services Act
of 194913 to require federal contractors to disclose their executive compensation structures.
In the 110th Congress two laws containing executive compensation provisions applicable to
executives of specific types of businesses were enacted: P.L. 110-289, the Housing and Economic
Recovery Act of 2008, and P.L. 110-343, the Emergency Economic Stabilization Act of 2008.
Sections of P.L. 110-289 concern restrictions on compensation for executives of federal home
loan banks, Fannie Mae, and Freddie Mac. Section 1117 allows the Secretary of the Treasury, in
exercising temporary authority to purchase obligations issued by any federal home loan bank,
10 15 U.S.C. § 78n.
11 15 U.S.C. § 78n.
12 15 U.S.C. § 7243.
13 41 U.S.C. §§ 251 et seq.
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Fannie Mae, and Freddie Mac, to consider limitations on the payment of executive compensation.
Sections 1113 and 1114 allow the Director of the Federal Housing Finance Agency to prohibit and
withhold executive compensation from executives of federal home loan banks, Fannie Mae, and
Freddie Mac if wrongdoing has occurred. There is also authority for limiting golden parachute
payments to these executives.
Section 302 of P.L. 110-343 prohibits the tax deduction of excessive employee remuneration.
Section 111 of P.L. 110-343 allowed the Secretary of the Treasury to require that financial
institutions whose troubled assets are purchased met appropriate standards for executive
compensation. These standards were required to include limits on incentive-based compensation
for unnecessary and excessive risks, recovery of bonuses and incentive compensation based on
criteria later proven to be materially inaccurate, and a prohibition on golden parachutes.
Bills concerning executive compensation limits have been introduced in the 111th Congress.
Among these bills are: H.R. 851, which would require any institution provided with assistance
under the Emergency Economic Stabilization Act of 2008 to meet standards for executive
compensation and corporate governance, and H.R. 857 and S. 360, which would prohibit any
officer or employee of an entity receiving funds under TARP from being compensated more than
the President of the United States.
In the 111th Congress, Title VII of P.L. 111-5, the American Recovery and Reinvestment Act of
2009, amended section 111 of P.L. 110-343 to set forth somewhat different and more detailed
restrictions on the compensation of executives of companies during the period in which any
obligation arising from financial assistance provided under the Troubled Assets Relief Program
(TARP) remains outstanding. The Secretary of the Treasury is required to develop appropriate
standards for executive compensation. The standards must include the following:
• Limits on compensation that exclude incentives for the five highest paid
executives of the TARP recipient to take unnecessary and excessive risks.
• A provision for the recovery by the TARP recipient of any bonus, retention
award, or incentive compensation paid to the five highest paid executives and the
next 20 most highly compensated employees of the TARP recipient, based upon
criteria that are later found to be materially inaccurate.
• A prohibition on the TARP recipient’s making any golden parachute payment to
the five highest paid executives or any of the next five highest paid employees of
the TARP recipient.
• A prohibition on a TARP recipient’s paying a bonus, retention award, or incentive
compensation, except that the prohibition shall not apply to paying long-term
restricted stock, so long as this stock does not fully vest during the period in
which the TARP recipient has outstanding financial assistance, has a value not
greater than one-third of the total amount of the annual compensation of the
employee receiving the stock, and is subject to other conditions that the Secretary
of the Treasury may determine to be in the public interest. The prohibition is not
to be construed to apply to a bonus payment required to be paid according to a
written employment contract executed on or before February 11, 2009. The
prohibition applies to the highest paid person of a financial institution receiving
$25 million or less in financial assistance, to at least the five highest paid
employees of a financial institution receiving between $25 million and $250
million in financial assistance, to the five highest paid executive officers and at
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least the next 10 highest paid employees of a financial institution receiving
between $250 million and $500 million, and for a financial institution receiving
financial assistance of $500 million or more to the five highest paid officers and
at least the next 20 highest paid employees.
• A prohibition on any compensation plan encouraging manipulation of the
reported earnings of a TARP recipient to enhance the compensation of any of its
employees.
• A requirement for the establishment of a Board Compensation Committee.
The chief executive officer and the chief financial officer of each TARP recipient must certify that
the TARP recipient has complied with the standards issued by the Secretary of the Treasury and
file the certification with the SEC if the company’s securities are publicly traded or with the
Secretary of the Treasury if the company’s securities are not publicly traded.
The Board Compensation Committee which each TARP recipient is required to establish must be
made up of independent directors and must review employee compensation plans. The Board
must meet at least semiannually to discuss and evaluate employee compensation plans. If the
TARP recipient’s stock is not registered with the SEC and it has received $25 million or less of
TARP assistance, the Board Compensation Committee’s duties shall be performed by the
recipient’s board of directors.
The board of directors of each TARP recipient must have a policy concerning excessive or luxury
expenses, including entertainment, office renovations, transportation services, and other
unreasonable expenditures.
Any annual or other meeting of the shareholders of a TARP recipient must permit a separate
shareholder vote to approve the compensation of executives. The vote shall be nonbinding and
cannot be construed to overrule a decision by the board of directors.
The Secretary of the Treasury is required to review bonuses, retention awards, and other
compensation paid to the five highest paid executives and the next 20 highest paid employees of
each company that received TARP assistance before February 17, 2009 (the act’s date of
enactment), to determine whether any payments were inconsistent with the purposes of TARP or
contrary to the public interest. Payments determined to be excessive shall be reimbursed to the
federal government.
In consultation with the appropriate federal banking agency, the Secretary of the Treasury shall
permit a TARP recipient to repay any assistance provided to the financial institution, without
regard to whether the financial institution has replaced the funds from any other source or to any
waiting period. When the assistance is repaid, the Secretary of the Treasury shall liquidate
warrants associated with the assistance at the current market price.
On June 10, 2009, the Treasury Department issued an interim final rule concerning executive
compensation for firms that have received assistance under TARP.14 Bonuses and golden
parachute payments are limited to executives of all entities which have received bailout funds, not
just to financial firms. Along with the rule, Treasury has appointed a special master responsible
14 Available at http://www.treas.gov/press/releases/reports/ec%20ifr%20fr%20web%206.9.09tg164.pdf.
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for reviewing any compensation paid to top executives and highly paid employees of companies
which have received exceptional assistance from the federal government.
On June 9, 2009, Treasury and the SEC issued two broad proposals that would provide the SEC
with more authority over executive compensation at all publicly traded companies.15 These
proposals would give to the SEC the authority to require nonbinding shareholder votes on
executive compensation and authority to ensure that corporate compensation committees are
more independent.
With the acknowledgment by AIG of the payment of bonuses to a number of its employees, bills
have been introduced to recover at least some of the bonuses paid. These bills would use different
ways in recovering the bonuses. For example, H.R. 1575 would authorize the Attorney General to
recover excessive compensation paid by entities which have received federal financial assistance
on or after September 1, 2008. Other bills would impose a high rate of taxation upon the bonuses
paid. For example, H.R. 1586, passed by the House, would impose a 90% tax on many bonuses
paid by businesses receiving TARP assistance. S. 651 would impose an excise tax on some
bonuses paid by companies receiving federal emergency economic assistance and would limit
nonqualified deferred compensation that employees of companies receiving federal emergency
economic assistance may defer from taxation. H.R. 1664, passed by the House, would amend the
Emergency Economic Stabilization Act of 2008 to prohibit unreasonable and excessive
compensation and compensation not based on performance standards paid by companies
receiving direct capital investments of taxpayer money.
Bills introduced in the 111th Congress more generally on executive compensation include S. 1074,
which would apply a say-on-pay rule to all publicly traded companies, and S. 1006, which would
require 60% of shareholders to give their approval to pay packages larger than 100 times the
average annual compensation of a company’s employees.
The House Committee on Financial Services circulated a discussion draft of H.R. 3269, the
Corporate and Financial Institution Compensation Fairness Act of 2009.16 The draft had four
major parts: Say-on-Pay, Independent Compensation Committee, Incentive Based Compensation
Disclosure, and Compensation Standards for Financial Institutions. On July 31, 2009, the House
passed an amended version of the bill.
Section 2 of the House-passed bill, concerning shareholder votes on executive compensation
disclosures, would amend section 14 of the Securities Exchange Act17 by adding subsection (i),
which would require every annual shareholder meeting to have a separate shareholder vote to
approve the compensation of executives. The shareholder vote would not be binding and could
not be construed as overruling a decision made by the board of directors. In addition, any proxy
or consent solicitation material in which shareholders are asked to approve an acquisition, merger,
consolidation, or proposed sale of an issuer would have to disclose any agreements or
understandings that executive officers have concerning compensation based upon the acquisition,
merger, consolidation, or sale of the issuer, so-called golden parachute agreements. There would
have to be a nonbinding shareholder vote on this compensation. Every institutional investment
15 Available at http://www.treas.gov/press/releases/reports/fact_sheet_say%20on%20pay.pdf and http://www.treas.gov/
press/releases/reports/fact_sheet_indepcompcmte.pdf.
16 Available at http://www.house.gov/apps/list/press/financialsvcs_dem/pressd_071709.shtml.
17 15 U.S.C. § 78n.
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manager would be required to disclose how it voted on executive compensation and golden
parachutes. The SEC could exempt certain categories of issuers from the shareholder vote
requirements and, in determining these exemptions, would need to take into account the potential
impact upon smaller companies.
Section 3 of the House-passed bill would require that every national securities exchange or
association prohibit the listing of equity securities of an issuer not having a compensation
committee of the board of directors. Every member of the compensation committee would have
to be independent, meaning that he or she could not accept any consulting, advisory, or other
compensatory fee from the issuer. A compensation committee would have the authority to retain a
compensation consultant and independent counsel. A compensation consultant or other adviser to
an issuer’s compensation committee would have to meet the independence standards established
by the SEC by regulation.
Section 4 of the House-passed bill would require federal regulators to issue regulations requiring
covered financial institutions to disclose the structures of all incentive-based compensation
arrangements offered by the institutions so as to determine whether the structures are aligned with
sound risk management, structured to consider risks over time, and meet other criteria to reduce
unreasonable incentives offered to employees to take excessive risks that could threaten the safety
and soundness of financial institutions or could have adverse effects upon economic conditions or
financial stability. The federal regulators covered are the Board of Governors of the Federal
Reserve System, the Office of the Comptroller of the Currency, the Board of Directors of the
Federal Deposit Insurance Corporation, the Director of the Office of Thrift Supervision, the
National Credit Union Administration Board, the Securities and Exchange Commission, and the
Federal Housing Finance Agency. Covered financial institutions are a depository institution or
depository institution holding company, a broker-dealer, a credit union, an investment adviser, the
Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation, and any
other financial institution that the federal regulators determine should be treated as a covered
financial institution. The Comptroller General would be required to carry out a study to determine
whether there is a connection between compensation structures and excessive risk taking.
On March 3, 2009, the United States Supreme Court granted certiorari in Jones v. Harris
Associates.18 In this case shareholders in a mutual fund brought suit against a fund’s investment
advisers for charging excessive fees in violation of section 36(b) of the Investment Company Act
of 1940.19 This provision in part states that an investment adviser of a registered investment
company has a fiduciary relationship concerning compensation for services and that fund
shareholders can bring a claim for breach of that fiduciary duty. The lower court decision20 stated
that “[s]ection 36(b) does not say that fees must be ‘reasonable’ in relation to a judicially created
standard. It says instead that the adviser has a fiduciary duty.”21 The lower court held that the fees
in this instance were not excessive because they were roughly in line with fees that other funds of
similar size and investment goals paid their advisers and because the shareholders could not show
that the adviser misled the fund’s directors. The question before the Supreme Court is whether the
lower court erred in holding that a shareholder’s claim of excessive fees under section 36(b)
cannot be recognized unless the shareholder can show that the adviser misled the fund’s directors.
18 No. 08-586.
19 15 U.S.C. § 80a-35(b).
20 527 F.3d 627 (7th Cir. 2008).
21 Id. at 632.
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The Court’s decision in this case could provide a clue as to what it might consider to be excessive
executive compensation.
Author Contact Information
Michael V. Seitzinger
Legislative Attorney
mseitzinger@crs.loc.gov, 7-7895
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