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Compensation Clawbacks in 2017

Recent Media Coverage

The Wells Fargo board of directors on April 10 reported that it would clawback millions in compensation from executives responsible for the company’s scandal over fraudulent accounts. The company required repayment of cash incentive compensation and the forfeiture of stock options. The former CEO will forfeit a total of $69 million. The total amount of compensation that will be clawed back from all executives is $183 million. The intense media coverage of the Wells Fargo clawbacks has generated renewed interest in the status of incentive clawbacks in corporate America.


Public and private companies over the years developed internal policies designed to prevent excessive management risk-taking intended to increase management compensation. Those protections may take the form of discretionary non-payment provisions in incentive plans, forfeiture of compensation, and termination/demotion actions.


Following the Enron / WorldCom financial misdeeds in 2002, and the financial institutions misdeeds in 2008, Congress thought stronger action was needed.

  • Sarbanes-Oxley in 2002 imposed incentive compensation clawbacks on the CEO and CFO for restatements as a result of misconduct.
  • Dodd-Frank in 2010 extended the clawbacks to all executive officers for restatements on a no-fault basis. If there was a material restatement of financial statements, any incentive-based compensation during the prior three years must be recovered from any current or former executive officer. The recovery is the amount of the incentive in excess of what would have been earned under the restated financial.
  • The SEC has not issued final clawback regulations, so the Dodd-Frank clawback provisions are not currently in force.
  • The Wells Fargo clawback was not based on Sarbanes-Oxley or Dodd-Frank since no restatement was involved. Wells Fargo had a clawback policy built into its incentive plans.

Clawback Considerations

Institutional investors and proxy advisor firms have pushed public companies to adopt clawback policies as part of their incentive plans. There is less external pressure for clawback plans with respect to private companies, but many private companies have put clawback provisions in place as part of director due diligence. A number of questions arise in connection with the establishment of a clawback policy.

  • Who should be covered? Sarbanes-Oxley covers only the CEO and CFO. Dodd-Frank covers all executive officers of public companies; most public companies have between five and fifteen executive officers. Many companies include a broader group in the clawback coverage, so that anyone in a position to take excessive risk or manage earnings is covered. The broader coverage can include division presidents, division controllers, and other corporate staff positions.
  • What triggers the clawback? Sarbanes-Oxley and Dodd-Frank are both triggered by material financial restatements. A financial restatement is a typical trigger for both public and private companies.
  • What compensation gets clawed back? Company policies vary widely on this question. Generally, annual incentive compensation in excess of that earned based on restated numbers is recovered. Stock options granted during the restatement period, or exercised during the restatement period, may be forfeited. Long-term compensation in part covered by the restated period, may be partially or totally recovered.
  • What conduct is covered? Sarbanes-Oxley requires some type of misconduct on the part of the CFO or CEO. Dodd-Frank operates on a no-fault basis. Most public and private company internal policies require some type of fraudulent conduct, intentional misconduct, or negligent conduct on the part of the covered persons.
  • Who decides? The typical public or private company plan provides that the board of directors determines who was responsible for the restatement, who was involved in the misconduct, and the degree of clawback which should be imposed. If a management director is involved, the determination is made by the independent directors.

Tax Considerations

Clawbacks may have even sharper teeth following a July 2016 Federal Circuit Court of Appeals decision. The former CEO of Qwest received $45 million of incentive compensation and paid $18 million in taxes on the compensation. A series of civil actions resulted in the CEO’s forfeiture of the $45 million. The CEO claimed an $18 million deduction on his subsequent tax returns for the $18 million in taxes he had paid on the forfeited income. The Court held the CEO did not have “unrestricted rights” to the compensation in the prior year, which is a prerequisite for subsequent year deductibility, so he was denied the deduction for taxes paid on the forfeiture.

Incentive Plan Considerations

Clawbacks generally follow restatements based on misconduct, and the misconduct is often based on excessive risk-taking or financial manipulation designed to increase reported financial results for a given period. There are a number of preventative provisions which can be considered in connection with incentive plans. These considerations are relevant to the directors of public companies, private equity investors with input into compensation plans, executives who manage individuals in a position to affect financial results, and all stockholders. Some examples:

  • Cap payouts. A spiraling payout based on spiraling earnings can incent bad conduct. A cap on payouts may reduce a misconduct incentive. Many companies cap an incentive payout at 2x or 3x target.