Compensation committee passes Sec. 162(m) muster with recusal of non-outside directors.

• Author: Elinsky, Peter I.
• Position: IRC s. 162(m

The IRS has ruled that a compensation committee consisting of at least two outside directors, along with a number of non-outside directors, will satisfy the Sec. 162(m) performance-based compensation requirements if the non-outside directors recuse themselves from the performance goal process (Letter Ruling 9811029).

Performance-Based Compensation

Sec. 162(m) generally provides that no deduction is allowed to any publicly held corporation for employee remuneration in excess of $1 million paid to any covered employee (the CEO or any of the four other highest paid officers for whom compensation must be reported under SEC rules). Certain types of remuneration, however, including "qualified performance-based compensation," are exempt from the disallowance rule.

Qualified performance-based compensation is compensation that meets the following requirements:

* It is paid solely on account of attaining one or more preestablished, objective performance goals.

* The performance goal is established by a "compensation committee" comprised solely of two or more "outside directors" (Sec. 162(m)(4) (C)(i);Regs. Sec. 1.162-27(e)(3)).

* The material terms of the performance goal under which the compensation is to be paid are disclosed to and approved by the shareholders in a separate vote before the payment is made.

* Prior to payment, the compensation committee certifies that the performance goals and any other material terms were satisfied.

Compensation committee: A compensation committee is the committee of directors--including any subcommittee of directors--of the publicly held corporation with authority to set and administer performance goals and to certify that performance goals are attained (Regs. Sec. 1.162-27(c)(4)).

Outside director: An outside director is one who:

* Is not a current employee of the corporation;

* Is not a former employee of the corporation currently receiving compensation for prior services (other than benefits under a tax-qualified retirement plan) during the tax year;

* Has not been an officer of the publicly held corporation; and

* Does not receive remuneration (directly or indirectly) in any capacity other than as a director.

Stock options: Under Regs. Sec. 1.162-27(e)(2)(vi), compensation from the exercise of stock options or stock appreciation rights (SARs)...