The SEC adopted long-pending rules requiring the recovery of erroneously awarded compensation as required by Congress in the Dodd-Frank Act. The rules will, among other things, require securities exchanges to adopt listing standards that require issuers to develop and implement a policy (usually called a “clawback policy”) providing for the recovery of erroneously awarded incentive-based compensation received by current or former executive officers. The rules require a listed issuer to file the policy as an exhibit to its annual report and to include disclosures related to its recovery policy and recovery analysis where a recovery is triggered.

The new rules implement Section 10D of the Securities Exchange Act of 1934, a provision added by the Dodd-Frank Act. New Exchange Act Rule 10D-1 directs national securities exchanges (e.g., NYSE and Nasdaq) and associations to establish listing standards that require a listed issuer to: (1) adopt and comply with a written policy for recovery of erroneously awarded incentive-based compensation received by its current or former executive officers in the event it is required to prepare an accounting restatement due to its material noncompliance with any financial reporting requirement under the securities laws, during the three completed fiscal years immediately preceding the date that the issuer is required to prepare an accounting restatement; and (2) disclose those compensation recovery policies in accordance with Commission rules, including providing the information in tagged data format.

More specifically, if an issuer is required to prepare an accounting restatement, including to correct an error that would result in a material misstatement if the error were corrected in the current period or left uncorrected in the current period, the issuer must recover from any current or former executive officers incentive-based compensation that was erroneously awarded during the three years preceding the date such a restatement was required. The recoverable amount is the amount of incentive-based compensation received in excess of the amount that otherwise would have been received had it been determined based on the restated financial measure. Notably, the rules do not require that the officers from whom compensation is being recovered have any culpability or direct involvement with the restatement or underlying issued causing the restatement. Many companies with existing clawback policies will need to revise those policies to comply with the new rules.

The rules will apply to all listed issuers, including smaller reporting companies, foreign private issuers and emerging growth companies. The rule contains only limited exceptions where: (1) direct expenses paid to third parties to assist in enforcing the policy would exceed the amount to be recovered and the issuer has made a reasonable attempt to recover; (2) recovery would violate home country law that existed at the time of adoption of the rule, and the issuer provides an opinion of counsel to that effect to the exchange; or (3) recovery would likely cause an otherwise tax-qualified retirement plan to fail to meet the requirements of the Internal Revenue Code.

Further, the final rules require specific disclosure of the listed issuer’s policy on recovery of incentive-based compensation and information about actions taken pursuant to such recovery policy. The amendments also require all listed issuers to: (1) file their written recovery policies as exhibits to their annual reports; (2) indicate by check boxes on their annual reports whether the financial statements included in the filings reflect correction of an error to previously issued financial statements and whether any of those error corrections are restatements that required a recovery analysis; and (3) disclose any actions they have taken pursuant to such recovery policies. Issuers will be required to use Inline XBRL to tag their compensation recovery disclosure.

There will be some transition time - as a next step, stock exchanges will be required to file proposed listing standards no later than 90 days following publication of the release of the SEC rules in the Federal Register, and the listing standards must be effective no later than one year following such publication. Issuers subject to such listing standards will be required to adopt a recovery policy no later than 60 days following the date on which the applicable listing standards become effective.

Today, the SEC (by a 3-2 vote among commissioners) proposed rules, as required under the Dodd-Frank Act, that would direct the stock exchanges to adopt clawback listing standards. Under the proposed new Rule 10D-1, listed companies would be required to develop and enforce recovery policies that in the event of an accounting restatement, “claw back” from current and former executive officers incentive-based compensation they would not have received based on the restatement. Recovery would be required without regard to fault. The proposed rules would also require disclosure of listed companies’ recovery policies, and their actions under those policies.

Under the proposed rules, the listing standards would apply to incentive-based compensation that is tied to accounting-related metrics, stock price or total shareholder return. Recovery would apply to excess incentive-based compensation received by executive officers in the three fiscal years preceding the date a listed company is required to prepare an accounting restatement. Companies would have discretion not to recover the excess incentive-based compensation received by executive officers if the direct expense of enforcing recovery would exceed the amount to be recovered or, for foreign private issuers, in specified circumstances where recovery would violate home country law.

Each listed company would be required to file its recovery policy as an exhibit to its annual report under the Securities Exchange Act of 1934. In addition, a listed company would be required to disclose its actions to recover in its annual reports and any proxy statement that requires executive compensation disclosure if, during its last fiscal year, a restatement requiring recovery of excess incentive-based compensation was completed, or there was an outstanding balance of excess incentive-based compensation from a prior restatement. Under the proposed rules, a company would be subject to delisting if it does not adopt a compensation recovery policy that complies with the applicable listing standard, disclose the policy in accordance with SEC rules or comply with the policy’s recovery provisions.

Additional facts can be found here, and the full proposing release can be found here.

Comments on the proposal are due 60 days from publication in the Federal Register (presumably that means early September). Once adopted, the stock exchanges would then have 90 days to propose their listing rules under Rule 10D-1, which would be effective sometime in the ensuing year. Once the listing rules are effective, companies would have 60 days to adopt a clawback policy. Recoveries would be required after the effective date of the new rule for excess incentive-based compensation received by current and former executive officers that results from attaining a financial reporting measure based on financial information for any fiscal period ending on or after the effective date of Rule 10D-1. Listed companies would be required to comply with the new disclosures in proxy or information statements and Exchange Act annual reports filed on or after the effective date of the listing exchange’s rule.