Legislative Focus On Executive Compensation and COLI Issues

Congress has devoted considerable attention to executive deferred compensation and insurance issues in the last month following the collapse of Enron. I believe this attention is primarily attributable to articles in The Wall Street Journal and other newspapers that reported former Enron executives used split-dollar life insurance to "shelter" their deferred compensation arrangements from the company's creditors, while 401(k) participants sustained large losses due to the fall of Enron stock.

On May 6, Senator Carl Levin (D-MI) introduced legislation (S. 2460, the "Shareholder Bill of Rights Act") that directs the SEC to issue new rules prohibiting a company from providing directors and officers with preferential treatment as compared to other employees with respect to the payment of deferred compensation or health, insurance, or retirement benefits after the company declares bankruptcy or in anticipation of declaring bankruptcy. The bill does not define what constitutes "preferential treatment," but the term conceivably could limit the payment of deferred compensation amounts to officers and directors.

On May 3, legislation to restrict the use of corporate-owned life insurance ("COLI") policies taken out on rank-and-file employees was introduced. On the House side bill (H.R. 4551), introduced on April 23, would require an employer who purchases an employer-owned life insurance policy on the life of an employee to disclose the policy to the employee no later than 30 days after the purchase.

These developments follow a series of The Wall Street Journal articles on the use by companies of so-called "janitors insurance" on rank-and-file employees. The articles suggest many companies take out such life insurance policies without the employees' knowledge, and then use the policies to generate tax-free income and death benefits for the companies. The articles also suggest that the cash value of the policies often are used as a source from which companies take loans to generate cash for operations and acquisitions. The use of this type of insurance became more prevalent in the 1980s when many states changed their rules to allow employers to buy life insurance on the lives of all employees.

The Senate Finance Committee staff is working internally on developing Enron-related pension legislation for a possible Committee markup in the next month or so. The Committee is considering executive deferred compensation and COLI issues as part of this legislation.

At this time, it is unclear what changes will be proposed. We understand Committee staff are concerned about executive deferred compensation arrangements in which deferred amounts become funded upon certain "triggering events," such as the company's impending insolvency. We also understand that the Committee may consider proposals to limit the use of "janitors insurance" and effectively prohibit the use of COLI to fund executive compensation arrangements. It's even possible the legislation the Committee marks up will seek to more broadly limit the use of "inside build-up" for executive deferred compensation purposes.