Overview
Action Items
- Familiarize yourself with employee compensation limits that apply if receiving loans or loan guarantees through the Treasury Department’s Economic Stabilization Fund (CARES Act Section 4003).
- Review existing compensation arrangements that may be impacted and develop a restructuring plan where necessary (which complies with other applicable requirements such as Code Section 409A).
- Stay updated on regulatory guidance and clarifications from the Treasury Department.
Companies should be prepared to evaluate and respond to the impact of significant employee compensation limits on existing compensation arrangements which will apply to companies receiving assistance through the Treasury Department’s Economic Stabilization Fund.
Employee Compensation Limitations
Section 4003 of the CARES Act provides $500 billion to the Treasury Department’s Economic Stabilization Fund (ESF), from which eligible businesses may receive loans or loan guarantees. As a condition of ESF assistance, companies must comply with several employee compensation limits set forth in Section 4004 of the CARES Act, including caps on total compensation and severance pay during specified periods. These restrictions will be incorporated into applicable ESF loan agreements.
For avoidance of any doubt, these restrictions do not apply to SBA loans under the Paycheck Protection Program or in connection with Employee Retention Credits.
- Total Compensation Limits. Officers and employees whose “total compensation” exceeded $425,000 in calendar year 2019 cannot receive greater total compensation in any rolling 12-month period within the restricted period defined below. For individuals whose total compensation exceeded $3 million in 2019, an additional limit applies: during such 12-month period, total compensation may not exceed $3 million plus 50% of the excess over $3 million in 2019. Thus, for example, an employee whose total compensation was $4 million in 2019 cannot receive compensation greater than $3.5 million during the rolling 12-month period.
- Current Arrangements Not Excluded. The CARES Act does not exempt contracts or other binding arrangements currently in effect. Without such grandfathering, companies will need to restructure existing arrangements consistent with other legal requirements (such as Code Section 409A).
- “Total Compensation” Definition. Total compensation “includes salary, bonuses, awards of stock, and other financial benefits.” This vague definition raises several questions, including: (a) whether compensation attributable to a prior year should be included in total compensation for the year in which it is paid (i.e., whether to follow IRS taxation principles or the SEC reporting approach); (b) how and when to value equity awards; (c) what is included in “other financial benefits”; (d) the impact of promotions on the limits, if any; and (e) how to determine total compensation for 2019 for employees hired in 2019. Forthcoming guidance from the Treasury Department may clarify these issues.
- Severance Pay Limits. Employees subject to the compensation limits also cannot receive “severance pay or other benefits upon termination of employment” in amount that exceeds twice the amount of total compensation in 2019. The statutory language does not indicate whether certain payments set to commence upon retirement, such as distributions from fully vested deferred compensation arrangements or other qualified plans, and other benefits realized for separations from service not involving involuntary termination, such as ordinary retirement-based acceleration of outstanding equity awards, are subject to this cap. Forthcoming guidance from the Treasury Department may clarify these issues.
- Restricted Period. The restricted period during which the compensation and severance limits apply begins on the date of the loan and concludes on the one-year anniversary of loan repayment. Thus, if a loan is provided on April 15, 2020 and repaid on April 15, 2021, the compensation and severance payout limitations are in effect from April 15, 2020 through April 14, 2022.
Other Restrictions May Impact Compensation
In connection with obtaining an ESF Loan under Section 4003 of the CARES Act, companies must also agree not to purchase their own stock during the restricted period described above. This may impact the ability of companies to allow for net settlement of awards to cover a participant’s taxes or exercise payments under equity incentive plans. This restriction may not apply to existing equity awards, but it could impact future grants.
We Can Help You
We have been on the forefront of dealing with COVID-19 for our clients. Please contact us if you would like to discuss any of these issues, or if we can otherwise be of assistance.
COVID-19 Resources
We recommend you evaluate the following pandemic-related business and legal considerations that we have been discussing with our clients: