Protection of Taxpayer Investment

1. Equity stakes
1. The Act requires financial institutions selling assets to TARP to issue equity warrants (a type of security that entitles its holder to purchase shares in the company issuing the security for a specific price), or equity or senior debt securities (for non-publicly listed companies) to the Treasury. In the case of warrants, the Treasury will only receive warrants for non-voting shares, or will agree not to vote the stock. This measure is designed to protect taxpayers by giving the Treasury the possibility of profiting through its new ownership stakes in these institutions. Ideally, if the financial institutions benefit from government assistance and recover their former strength, the government will also be able to profit from their recovery.[2]
2. Limits on executive compensation
1. The Act sets some new limits on the compensation of the five highest-paid executives at companies that elect to participate significantly in TARP. The Act treats companies that participate through the auction process differently from those that participate through direct sale (that is, without a bidding process).
1. Companies who sell more than $300 million in assets through an auction process are prohibited from signing new “golden parachute” contracts (employment contracts that provide for large payments upon termination) with any future executives. It will also place a $500,000 limit on annual tax deductions for payment of each executive, as well as a deduction limit on severance benefits for any golden parachutes already in place.[2]
2. Companies in which the Treasury acquires equity because of direct purchases must meet tougher standards to be established by the Treasury. These standards will require the companies to eliminate compensation structures that encourage “unnecessary and excessive” risk-taking by executives, provide for claw-back (forced repayment of bonuses in the event of a post-payment determination that the bonuses were paid on the basis of false data) of bonuses already paid to senior executives based on financial statements later proven to be inaccurate, and prohibit payment of previously established golden parachutes.[2]
3. Recoupment
1. This provision was a big factor in the eventual passage the EESA. It gives the taxpayer the opportunity to “be repaid.” The recoupment provision requires the Director of the Office of Management and Budget to submit a report on TARP’s financial status to Congress five years after its enactment. If TARP has not been able to recoup its outlays through the sale of the assets, the Act requires the President to submit a plan to Congress to recoup the losses from the financial industry. Theoretically, this prevents TARP from adding to the national debt. The use of the term “financial industry” in the provision leaves open the possibility that such a plan would involve the entire financial sector rather than only those institutions that availed themselves of TARP.[2]
4. Disclosure and Transparency
1. Though the Treasury will ultimately determine the type and extent of disclosure required for participation in the TARP, it is clear that these requirements will be extensive, particularly with respect to any asset acquired by TARP. It seems certain that institutions who participate in TARP will have to publicly disclose information pertaining to their participation, including the amount of assets they sold to TARP, what type of assets were sold, and at what price. More extensive disclosure may be required at the discretion of the Treasury.[2]
2. The Act also seems to give a broad mandate to the Treasury to determine, for each “type” of institution that sells assets to TARP, whether the current disclosure and transparency requirements on the sources of the institution’s exposure (such as off-balance sheet transactions, derivative instruments, and contingent liabilities) are adequate. If the Treasury finds that a particular institution has not provided sufficient disclosures, it has the power to make recommendations for new disclosure requirements to the institution’s regulators, which will probably include foreign-government regulators for those foreign financial institutions that have “significant operations” in the United States.[2]
5. Judicial Review of Treasury Actions
1. The Act provides for judicial review of the actions taken by the Treasury under the EESA. In other words, the Treasury may be taken to court for actions it took pursuant to the Act. Specifically, Treasury actions may be held unlawful if they involve an abuse of discretion, or are found to be “arbitrary, capricious . . . or not in accordance with law.” However, a financial institution that sells assets to TARP is not allowed to challenge the Treasury’s actions with respect to its specific participation in TARP.