What the Chicago Executive Needs to Know About Dodd-Frank Clawbacks

Policies on clawback of executive compensation in Chicago are not new. Employers have used clawback policies for eons to deter dishonest or fraudulent behavior (bad boy clauses), enforce covenants not to compete, or to recover bonuses following a financial restatement. Following Enron’s demise, Sarbanes-Oxley included new laws on executive incentive based compensation clawback, but only applied to misconduct by CEOs and CFOs, and required the incentive based compensation received in the year following the first restated financial statement be repaid. 15 U.S.C. § 7243.

Dodd-Frank, however, will likely impact many more executives than previously implicated under Sarbanes-Oxley. Section 954 of Dodd-Frank requires that, as a condition of the employer’s securities being listed on a national securities exchange or association, if the issuer must make financial restatements because of “material noncompliance” with the securities laws, then the issuer will recoup from any current or former executive officer during the 3 years preceding the date the issuer must make the restatement all amounts paid in incentive based compensation above what would have been paid under the restated financials.

First, Dodd-Frank appears to expand the scope of executive officers to whom it will apply, though it does not define the term. That is left to the SEC and exchanges. A safe bet, though, is that the definition will look something like Rule 3b-7 of the 1934 Act, which would include the president, VP of any principle business unit or function, or any other person who performs similar policy making. Second, the act does not define incentive based compensation, other than specifically including stock options. Again, we can assume this will encompass bonuses and equity based compensation. It will nevertheless be confusing at best to determine what a business unit VP would have received in bonus or stock based compensation under restated financials.

Third, there is a 3-year lookback. But will this retroactive clawback immediately apply, or will the provision only apply to be able to clawback income earned after 2010? Finally, what exactly will the employer do to enforce an alleged clawback? Withhold wages? Withhold SERPs? The tax consequences vary, and vary even more depending on whether any clawback occurs in the same tax year the incentive based compensation was paid, or in a subsequent year.

If you are an executive in a publicly traded company and want to know YOUR rights, not the employer’s, under any compensation clawback law or policy, talk to an executive employee benefits lawyer today.