Companies that have received TARP funds should begin reviewing now any bonuses for 2008 that were paid in 2009 as well as their deferred compensation arrangements. The Senate Finance Committee is acting quickly to address the outrage felt by many taxpayers and the Congress with respect to the widely publicized bonuses paid by TARP recipient AIG. Chairman Max Baucus (D-MN) and Ranking Member Charles Grassley (R-IA) have jointly announced a proposal to heavily tax bonuses paid by TARP recipients and to cap deferred compensation of TARP recipients to $1 million annually. Their proposal would impose excise taxes totaling 70% on all "retention bonuses" (regardless of amount) and all other bonuses in excess of $50,000. The proposal would apply to bonuses earned or paid on or after January 1, 2009 and through the date the company continues to have TARP funds. Thus, the proposal apparently would apply to bonuses for 2008 that were paid in 2009. The proposal would also impose a $1 million cap on deferred compensation of employees of TARP recipients. This proposal is similar to one that passed the Senate in a prior Congress that would have applied to all deferred compensation (the prior proposal pre-dated TARP). The cap would apply to compensation deferred after the date of enactment and while the company retains TARP funds. There are many details that are not answered by the summaries of the proposal that are available so far. Hopefully, more details will emerge when statutory language is available; however, if anything is enacted rapidly, there may not be sufficient time to hammer out details.

The Finance Committee is expected to act quickly on this proposal - possibly as quickly as this week. House Speaker Nancy Pelosi has also urged quick action with respect to bonuses, but details have not yet been released. A summary of the Finance Committee proposal follows:

Excise tax on excessive compensation

  • Company must pay a 35% excise tax on:
    • All retention bonuses

    • All other bonuses over $50,000

  • Individuals must pay a 35% excise tax on:
    • All retention bonuses
    • All other bonuses over $50,000
  • For foreign employees – if the excise tax cannot be collected from the individual through normal withholding, then the company would be responsible for paying the employee’s 35% excise tax amount
  • Provides regulatory safeguards that would help to prevent companies from characterizing bonus payments as salaries to avoid the tax
  • Would apply to all TARP recipients of government funds, as well as companies in which the government holds an equity interest, including Fannie Mae and Freddie Mac
  • Would apply to all retention bonuses or other bonuses earned or paid beginning on 1/1/09 and continuing through the period during which the company retains TARP funds

$1 million cap on deferred compensation

  • There would be a $1 million limit on nonqualified deferred compensation, meaning that a taxpayer cannot defer more than $1 million in a 12 month period
  • $1 million limit would be indexed for inflation
  •  If the $1 million limit is violated, compensation deferred under all nonqualified deferred compensation plans covering the taxpayer (including compensation deferred in previous years) would be taxable and such deferred amounts would be subject to a 20% penalty tax and interest payment

Interest and earnings on deferred compensation

  • Interest and earnings on compensation deferred during the 12 month period would not be counted against the $1 million limit, so long as the earnings are based on a “market rate” of return.
  •  In general, a “market rate” of return would mean a predetermined actual investment (which may include book value and a reasonable fixed rate of return)
  •  The Treasury Department would be given the authority to define a “market rate” of return

Would apply to all TARP recipients of government funds, as well as companies in which the government holds an equity interest, including Fannie Mae and Freddie Mac

Would apply to all compensation deferred after date of enactment and continuing through the period during which the company retains TARP funds