– Steve Seelig, Towers Watson

For those who thought they’d need only consider how pending Financial Services Reform legislation would influence executive compensation, here’s something else you may need to worry about. Part of the House version of H.R. 4213, the American Jobs and Closing Tax Loopholes Act of 2010, includes provisions that would provide funding relief for certain companies with pension shortfalls, but would offset that relief to the extent the company paid “excess employee compensation” or made certain dividend payments in stock redemptions. While the universe of companies needing to worry about this legislation may be somewhat limited, this provision may signal that Congress is not yet done seeking to have companies recraft executive compensation designs.

For a company electing funding relief, the legislation would increase the required pension funding contribution by the amount of any excess employee compensation paid by the plan sponsor. “Excess employee compensation” is essentially any W-2 compensation for the year that exceeds $1 million (indexed after 2010 for inflation). It also includes any amounts set aside or reserved (directly or indirectly) for employees in a trust or similar arrangement under a nonqualified deferred compensation plan.

The latter definition appears to apply without regard to whether the employee’s compensation exceeds $1 million. A grandfather rule would exclude any nonqualified deferred compensation, restricted stock, stock options or stock appreciation rights payable or granted under a written binding contract that was in effect on March 1, 2010 and was not modified in any material way before the remuneration was paid. Commissions paid to those who would not be considered specified employees under 409A are also excluded as is compensation attributable to services rendered prior to 2010 (other than the funding of deferred compensation).

On its face, the legislation seeks to have companies craft pay programs to avoid the funding of nonqualified deferred compensation for higher paid employees during the years for which they are taking advantage of relief by funding less of their pension shortfall. Further, by defining “excess employee compensation” based on W-2 income, the rule will also tend to punish companies that grant equity compensation (after March 1, 2010) whose value is realized in a later year where stock values have increased. Given the choice of dealing with the vagaries of stock price volatility, companies that elect funding relief may be more inclined to craft cash-based programs where they can at least cap the amount of funding relief they would lose.

Of course, regardless of the form of the pay program, companies considering whether to elect funding relief will need to weigh the relative cost of the executive pay program in its current state versus the additional cash cost of having to contribute more to their pension plan.

Policy-wise, it seems Congress may also believe this structure also will help to drive down executive compensation levels for these companies. An interesting dynamic, thus, is created where the very executives in charge of choosing whether to elect funding relief may be doing so at the peril of their compensation committee granting them a scaled-down or non-equity based compensation program. And once the decision to use funding relief is made, the compensation committee will need to include the potential cash cost to the company of losing out on some funding relief, as it considers the other tax, accounting and cost implications of the pay program it approves.

– Broc Romanek, CompensationStandards.com

Although we likely will not know the entire composition of the House-Senate Conference Committee that will reconcile the Senate and House versions of a financial reform bill for another week, we do know that Rep. Barney Frank will head the Committee (as noted in the NY Times’ DealBook) and we do know the twelve Senators that will be included in that Committee (as noted in this Reuters article; this Reuters article identifies likely House members of the Committee even though they won’t be officially named til week of June 7th). Congress – and President Obama – have a goal to wrap up a final bill by the 4th of July recess.

Even though the House’s bill was weaker in the governance area, it is likely that Rep. Frank will push to keep the stronger Senate provisions in the final bill – with some tweaks as noted below – given that very few of the 400-plus proposed amendments to the Dodd bill dealt with governance issues. The real reconciliation debate will center on how financial institutions are regulated (ie. derivatives, “too big to fail”, etc. – see Frank’s comments in these areas yesterday).

Note that Barney Frank wants the Conference Committee negotiations televised.

Barney Frank Speaks: His View of Which Governance Provisions Will Survive Reconciliation

According to this article, Rep. Frank said last week that the specific language regarding the proxy access provision was up in the air. He also said that the Senate provision for a self-funded SEC may be tweaked to keep Congress involved somewhat – and he indicated that the House provision to exempt smaller companies from SOX’s internal controls requirement may survive. According to the ISS Blog, Frank said that the Senate’s majority vote requirement could well be stripped out in the final bill.

Below is a piece written by CongressDaily’s Bill Swindell entitled “Frank Sees SEC Self-Funding Language As Ripe for Revision” that covers a number of topics:

A drive to allow the SEC to self-fund its budget by retaining fees it collects will likely have to be modified to allow for greater oversight by appropriators, House Financial Services Chairman Barney Frank said Tuesday. Frank said conference negotiators on legislation to revamp the nation’s financial regulatory system will have to take into account the resistance of appropriators to SEC self-funding because they would lose their power to dictate its budget.

“The Appropriations Committee gets very upset about this. What I am hoping that gets worked out, and it will be with their participation, is a way to do some self-funding, which leaves the Appropriations Committee with a role,” Frank said during a talk at the Compliance Week annual conference. The Senate bill contains the provision, allowing the agency’s chairman to submit a budget to the SEC, but it would automatically get the amount requested. The language was sponsored by Sen. Charles Schumer, D-N.Y., who has argued the agency needs more resources to monitor wrongdoing in the aftermath of the Bernard Madoff and Allen Stanford fraud cases. The House bill set an increase in authorization levels.

The FY10 funding for the SEC was $1.1 billion, a $151 million increase over FY09. It has requested $1.26 billion for FY11. The agency collected $1.5 billion in fees in 2008. “The appropriators are going to push hard to maintain some role, and I think they will be successful,” Frank said. Both bills give the SEC authority to issue rules that would allow shareholders to nominate board of director candidates through increased proxy access. “I think we are at least going to empower the SEC to do it. Beyond that, I’m not sure,” Frank said.

The SEC last year proposed a rule to require companies in some cases to include in their proxy materials the nominations for directors by shareholders, but held off on finalizing the proposal. The U.S. Chamber of Commerce and other business groups question whether the agency has the right to issue rules over corporate governance standards that are enacted at the state level.

The Senate bill, however, includes additional Schumer provisions, such as requiring that directors in uncontested elections receive a majority of the votes cast, or they must tender their resignation. It also would require the SEC to issue rules to require public companies in their proxy statements to disclose why the same or different people serve as chairman and CEO. Frank said he did not know if the additional Schumer provisions could withstand negotiations, though they are a priority for the New Yorker.

Frank expressed some skepticism for a drive to separate the CEO and chairman duties. “In my experience, it hasn’t made a lot of difference if you have looked at the performance, of separating the CEO from the chairman of the board. People say it’s very important. But my guess is that if you threw up the list of major companies, and didn’t tell people which was which, there wouldn’t be [a] way to differentiate by any kind of results and analysis,” he said.

The Senate appointed its conferees Tuesday, with a 7-5 ratio of Democrats to Republicans. Frank said the House will appoint its conferees the week of June 7, and he recommended a party-line ratio of eight to five. “We have an administration that feels strongly about this, and I expect House leadership will be engaged more than they were last year when health care took up much of their time and when they paid us the compliment of trusting us,” Frank wrote to Democratic members of his panel.

“Their greater involvement will not imply a lack of trust, but simply the fact we are down to a very few important issues where the administration will be strongly expressing its view,” he continued. “There is also the fact that the need to keep 60 votes in the Senate will be something of a constraint.”