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Fact of the caseMega’s, NYSE listed company is on the end of fiscal period and it is expected that the year willend with 40% increase in revenue and Earning. The compensation committee has voted to pay $3 million compensation to its CEO; also they afraid if the compensation will be paid less,company will lose the CEO.Discussion Applicable law with respect to CaseSection 162(m) of the Internal Revenue code of 1986 restrict deduction for compensation paid tocovered employee up to $1 *million. The Covered employee contains CEO and other threehighest compensation paid officer excluding CEO and CFO. However there is certain exceptionto this provision. It is to be noted that qualified preference based compensation are not coveredunder the limitation of compensation as stipulated under section 162(m). Bonus paid based onthe profitability of the company is definitely performance based compensation as the profitabilityof the company is always uncertain. However specific pre-established goals should be there andit must be approved by shareholder by vote. Also the certificate from the Compensationcommittee need to be obtain before paying performance based compensation stating that therequired goals are fulfilled.Recommendation to CommitteeThe compensation committee has two optionsOption 1 -Paying $ 3 Million as normal compensationMega’s compensation committee has agreed for payment of $3 Million compensation to theCEO as normal compensation , however it the company can claim only $1 Million as deductionfor taxation , and for another $2 million the company will not get the deduction. So it will behuge tax loss for the company and lead to loss of shareholder wealth .Option 2- Paying compensation above $1 Million as performance bonusIt is cleared said that companies profitability will be 40% high an end of the fiscal year andhence company can pay the performance based compensation to CEO. The compensation overand above $1 million can be covered under this relation. To take deduction for qualifiedcompensation based on profitability, the compensation committee needs to take care followingfour points1.The company need to set the performance goal for CEO in terms of profitability beforeyear end2.The Goals for the Profitability must be set by compensation committee3.The approval of the shareholder must be taken in terms of vote before payment , forperformance criteria and amount of compensation.
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