In our September 4 post, we discussed the case for eliminating the Section 162(m) disclosures in proxy statements.  Here is an alternative view of the subject.

It is worth looking back at the reasons for virtually every CD&A having a Section 162(m) disclosure.  Here is a brief history:

  •  Before the 2006 revamp of the rules, the SEC had required discussion of a company’s Section 162(m) policy.
  • The CD&A rules give as an example of possibly material information: “the impact of the accounting and tax treatments of the particular form of compensation”.
  • In the adopting release, the SEC stated:

Regarding the example noting the impact of accounting and tax treatments of a particular form of compensation, some commenters urged that companies be required to continue to disclose their Internal Revenue Code Section 162(m) policy. The adoption of this example should not be construed to eliminate this discussion. Rather, this example indicates more broadly that any tax or accounting treatment, including but not limited to Section 162(m), that is material to the company’s compensation policy or decisions with respect to a named executive officer is covered by Compensation Discussion and Analysis. Tax consequences to the named executive officers, as well as tax consequences to the company, may fall within this example.

Most companies interpreted the CD&A rules to apply the prior “presumption” of materiality to the Section 162(m) disclosure and continued their prior practice of making a disclosure.

What is the right approach now? If a company wants to eliminate the disclosure, the question is materiality.  As with most materiality questions, there are different ways to look at it.

Virtually all companies where the deduction may be in question will adopt Section 162(m)-compliant compensation plans and then follow the Section 162(m) requirements in paying some compensation.  The potentially most material aspects of Section 162(m) from a disclosure perspective are the requirement to use preapproved performance goals and the limits on grant sizes and types. Also, most companies will not give up a deduction without Section 162(m) being a part of the decision process.  Does this mean that Section 162(m) was material in the decisions?

On the other hand, the actual tax savings from Section 162(m) as a number is not material for most companies. And it is difficult to maintain that the disclosure continues to be useful to shareholders, particularly given shareholder complaints about the growing length of the CD&A and the SEC’s past statements that the CD&A should avoid boilerplate disclosures.

If a company determines that the Section 162(m) disclosure should be maintained, it is worthwhile to look at the disclosure in light of the shareholder litigation.  There may be tweaks to the disclosure that would reduce the likelihood of a Section 162(m) disclosure-related shareholder claim.