House Passes Surtax on TARP Bonuses – Senate Introduces Its Own Bill

H.R. 1586
On March 19, 2009, the U.S. House of Representatives passed H.R. 1586 (Additional Tax on Bonuses Received from Certain TARP Recipients) by a vote of 328 to 93.  Generally, H.R. 1586 will impose a 90% personal income surtax on bonuses received by an employee or former employee of a “covered TARP recipient” with more than $250,000 in adjusted gross income ($125,000 for married individuals filing separately). 

For these purposes, a “covered TARP recipient” means (i) any person who receives (and has not repaid) after December 31, 2007, capital infusions in the aggregate in excess of $5 billion under the Emergency Economic Stabilization Act of 2008, also known as TARP; (ii) the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation; (iii) an affiliate (as defined in Section 1504 of the Internal Revenue Code of 1986, as amended (“Code”), without regard to certain exclusions) of persons described in clauses (i) and (ii); and (iv) any partnership if more than 50% of its capital or profits interests are owned directly or indirectly  by one or more persons described in clauses (i), (ii), or (iii).  It is important to note that clauses (iii) and (iv) of this definition greatly expand the universe of persons that may be subject to this tax.  For example, managers of private equity funds, mutual funds, and hedge funds may be subject to this tax depending on the funds’ ownership.

The surtax is applicable to any retention or incentive payment or other bonus which is in addition to a person’s regular salary, received after December 31, 2008, and to any gross-up of the surtax.  The surtax will not apply to (i) payments that are commissions, welfare or fringe benefits, or expense reimbursements and (ii) otherwise applicable bonuses that are waived or returned by the employee before the close of the taxable year in which such bonus payment is due. 

S. 651
On the same day, Senate Finance Committee Chair Max Baucus (D-Mont.) and ranking minority member Chuck Grassley (R-Iowa) introduced the Compensation Fairness Bill of 2009 (S. 651), imposing surtaxes with respect to certain bonuses, which is broader in scope and a somewhat less onerous than H.R. 1586, described above.

In general, S. 651 is applicable to any institution accepting more than $100 million in TARP funds, except for institutions that qualify as small banks under the Code.  S. 651 will impose a 35% excise tax on both employers and employees on retention bonuses and other bonuses.  It will also cap the amount of income which employees of these TARP recipients are allowed to defer tax free.

The taxes imposed under S. 651 are applicable to bonuses earned or paid on or after January 1, 2009.  As provided in H.R. 1586, an employee may avoid the excise tax if the bonus is returned to the institution.

May Taxes Be Enacted With Retroactive Effect?
Yes.  Tax rate increases were enacted and applied to a prior taxable year pursuant to the Revenue Act of 1918 (which was enacted on February 24, 1919, and applicable to income earned beginning in the 1918 calendar year).  Since that time, tax rates increases have not been made effective with respect to taxable years prior to enactment, and have only been increased on a nominally retroactive basis, i.e., to the beginning of the year, in 1938, 1944, and 1993.  For example, the Revenue Reconciliation Act of 1993 was signed into law in August of 1993, and the increased tax rates were effective for taxable years beginning after December 31, 1992.

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