Tax consequences of compensation clawbacks for issuers and executives

Corporate executives with lucrative contracts can be subject to “clawbacks”, or reclaiming of already-paid compensation, for violating company policy, agreement, or law.  This can raise questions about the tax implications for both the company who issued the clawback and the executive who has had her compensation clawed-back.

For the issuer:
Compensation subject to clawback is accrued under normal principles; clawback contingency is “remote” and should not defeat accrual.  But if incentive-based compensation is deducted in one taxable year of company, and recouped in a subsequent taxable year as erroneously awarded incentive-based compensation, the company might have to take the amount back into income in the year of recoupment under the “tax benefit rule,” which generally requires income inclusion of amount previously deducted when events occur that are “fundamentally inconsistent” with the earlier deduction.  For a complete assessment of how to deduct bonus compensation when issued or when clawed back, contact a ShindelRock tax professional.

For the executive:
Compensation returned in same year it was originally paid is treated as though it was never paid in the first place, for income and FICA tax purposes.  If the bonus was paid in a previous year, and the clawback takes place in a subsequent year, the picture is much more complex.  In this case, it’s best to consult a ShindelRock tax professional for a complete review of the tax implications of the clawback.