Greenberg Traurig Alert
Steps Publicly Held Companies Should Take to Preserve Deductions Under Section
162(M) for Executive Compensation
March 1, 1997
The purpose of this ALERT is to remind our publicly-held clients of actions that should
be taken at this time of the year to minimize the portion of the compensation paid to
their senior executives that is not deductible by reason of the limitations under Section
162(m) of the Internal Revenue Code of 1996.
Section 162(m) generally precludes a publicly held corporation from deducting
compensation in any year paid to its chief executive officer and its four most highly
compensated officers (other than the CEO), if and to the extent that the compensation
payable to any such officer for the year exceeds $1 million. The section 162(m)
limitations do not apply, however, to qualified performance based compensation. To qualify
as performance-based compensation:
- The compensation must be paid solely on account of the attainment of one or more
pre-established objective performance goals;
- The performance goals under which compensation is paid must be established by a
compensation committee comprised solely of two or more outside directors;
- The material terms of the performance goals under which the compensation is to be paid
must be disclosed to and subsequently approved by the shareholders of the publicly held
corporation before the compensation is paid; and
- The compensation committee must certify in writing prior to payment of the compensation
that the performance goals and any other material terms were in fact satisfied.
Certification of Satisfaction of 1996 Performance Goals
As indicated above, one of the requirements for compensation to qualify as performance
based compensation is that the compensation committee must certify in writing prior
to payment of the compensation that the performance goals and any other material terms
were in fact satisfied. For this purpose, approved minutes of the compensation committee
meeting in which the certification is made are treated as a written certification.
Certification is not required for compensation that is attributable solely to the increase
in value of the corporation's stock. Thus, Committee certification would not be required
with regard to stock options, restricted stock awards or stock appreciation rights.
Clients should be sure that, prior to the payment of compensation based upon 1996
performance, the minutes of the compensation committee contain a certification that the
performance goals upon which such compensation is based have been satisfied.
Establishment of Goals for 1997
Treasury Regulations state that to qualify as performance based compensation,
performance goals must be established in writing by the compensation committee not later
than 90 days after the commencement of the period of service to which the performance goal
relates, and at the time those goals are set, the outcome must be substantially uncertain.
In addition, the performance goal must be established before 25% of the period of service
has elapsed. Thus, performance goals established for incentive compensation for calendar
year 1997 would need to be established by the compensation committee by no later than
March 31, 1997.
Plans or Agreements In Effect Prior to December 20, 1993
Treasury Regulations issued under Section 162(m) provide for a transition rule pursuant
to which compensation paid under a plan or agreement approved by shareholders before
December 20, 1993 is treated as satisfying the requirements that the performance goals be
established by a compensation committee comprised solely of Ňoutside directorsÓ as
defined in the Regulations and that the material terms of the performance goals be
disclosed to and be approved by shareholders before the compensation is paid. To qualify
under this transition rule, the directors administering the plan or agreement must be
disinterested directors and the plan or agreement must have been approved by shareholders
in a manner consistent with Rule 16b-3(b), as then in effect, under the Securities
Exchange Act of 1934. In addition, such a plan or agreement is treated as satisfying the
requirement that it state the maximum number of shares with respect to which options or
rights may be granted during a specified period to any employee, if it was approved by
shareholders and provided for an aggregate limit, consistent with Rule 16b-3(b) as then in
effect, on the shares of employer stock with respect to which awards may be made under the
plan or agreement.
The Regulations state that the foregoing transition rule expires on the earliest of:
- The expiration of, or a material modification of, the plan or agreement;
- The issuance of all employer stock and other compensation that has been allocated under
the plan or agreement; or
- The first meeting of shareholders at which directors are to be elected that occurs after
December 31, 1996.
Thus, those clients that have relied upon this transition rule should amend their plans
to include the individual limits so as to comply with Section 162(m), and obtain
shareholder approval of their plans as so amended at their first shareholders' meeting at
which directors are elected in 1997.
This GT ALERT is issued for informational purposes only and is not intended
to be construed or used as general legal advice. Greenberg Traurig attorneys provide
practical, result-oriented strategies and solutions tailored to meet our clients’
individual legal needs.