On Thursday, June 23, 2011, the IRS/Treasury Department issued new proposed regulations on the performance-based compensation exception for certain stock awards under Code Sec. 162(m). The proposed regulations would not make any dramatic changes. However, they do emphasize a few subtle drafting and disclosure points.

The proposed regulations reaffirm the requirement of the current regulations §1.162-27(e)(2)(vi), which states that the plan under which the option or right is granted must specify the maximum number of shares with respect to which options or rights may be granted to any individual employee during a specified period. The proposed regulations also clarify that:

  • The aggregate authorized share limit in the plan document and proxy description, essential for securities law and shareholder approval purposes, is not enough; and
  • The proxy description seeking shareholder approval of the plan should reference the maximum number of shares for which the company may make awards to any individual employee during a specified period and the exercise price of any options or SARs (for example, fair market value on date of grant. This is to satisfy the requirement that, if terms of the performance goal do not provide for a maximum dollar amount, which most equity compensation plans would not, then the disclosure must include the formula under which the compensation would be calculated.

The proposed regulations also clarify and limit the application of the special transition rule for stock compensation plans if a corporation becomes publicly held in connection with an initial public offering (IPO). Reg. §1.162-27(f)(1) of the current regulations provides that in the case of a corporation that was not publicly held and then becomes a publicly held, the $1,000,000 deduction limit "does not apply to any remuneration paid pursuant to a compensation plan or agreement that existed during the period in which the corporation was not publicly held." If a corporation becomes publicly held in connection with an IPO, then this relief applies only to the extent that the prospectus accompanying the IPO disclosed information concerning the existing compensation plans or agreements. A newly public corporation may rely on this relief until the earliest of: (i) the expiration of the plan or agreement; (ii) the material modification of the plan or agreement; (iii) the issuance of all employer stock and other compensation that has been allocated under the plan; or (iv) the first meeting of shareholders at which directors are to be elected that occurs after the close of the third calendar year following the calendar year in which the IPO occurs. (A privately held corporation that becomes publicly held without an IPO may only rely on this relief until the first calendar year following the calendar year in which the corporation becomes publicly held.)

As explained by my partner Michael Falk, the proposed regulation would clarify that the transitional relief provided under §1.162-27(f)(1) applies to any compensation received pursuant the exercise of a stock option, SAR, or restricted stock award granted under a properly disclosed plan during the transition period.

Many executive compensation professionals thought – quite logically – that if the transition rule applies to options, SARs and restricted stock, it also must apply to RSUs awards and phantom stock granted during the transition period because, after all, they are generally an economic equivalent. The new proposed regulations would expressly provide that the §1.162-27(f)(1) relief does not also apply to RSUs awards and phantom stock granted during the transition period.

On June 27, 1950, President Truman ordered U.S. air and naval forces to fight with South Korea's Army, following North Korea's unprovoked, surprise attack on South Korea on June 25, and a cease-fire order issued by the United Nations Security Council on June 26. The Korean War continued until July 27, 1953, with 36,940 US troops killed.