Reacting to DOJ Emphasis on Compensation Clawbacks

In September 2022, Deputy Attorney General Lisa Monaco announced that, when investigating and resolving corporate criminal investigations, the Department of Justice (“DOJ”) planned to begin to require corporate defendants to demonstrate that bonuses paid to culpable employees could or would be clawed back. On March 15, 2023, DOJ’s Criminal Division launched a three-year initiative known as the Compensation Incentives and Clawbacks Pilot Program (“CIC Program”).1 Under the CIC Program, “when entering into criminal resolutions, companies will be required to implement compliance-related criteria in their compensation and bonus system and to report to the Division about such implementation during the term of such resolutions.”2

But what does that mean for companies that are not under investigation? Are clawbacks of employee compensation expected in every case? How should companies set up compensation packages so that they meet DOJ’s expectations in the event of an investigation that may never occur but that does not violate federal, state, or local employment laws in the process?

OVERVIEW OF DOJ’S CLAWBACK POLICIES

Monaco announced that DOJ’s clawback program would have two general components. First, she announced that the “Criminal Division will now include a requirement that the resolving company develop compliance-promoting criteria within its compensation and bonus system.”3 Second, Monaco announced that the “Criminal Division will provide fine reductions to companies who seek to clawback compensation from corporate wrongdoers.”4 These two policy announcements focus on consequences after criminal conduct has been investigated, identified, and acknowledged (if not also admitted) by the corporate defendant. DOJ’s manual entitled Evaluation of Corporate Compliance Programs (the “Compliance Guidelines”), provides guidance to prosecutors and, indirectly, to corporate compliance professionals regarding the elements and features of a corporate compliance program that federal prosecutors look for during corporate criminal investigations. Although the Compliance Guidelines, which were last updated in March 2023, do not include the term “clawback,” the Compliance Guidelines describe compensation structures that enable a company to recoup money paid to employees who are later found to have broken the law:

Prosecutors may consider whether a company has incentivized compliance by designing compensation systems that defer or escrow certain compensation tied to conduct consistent with company values and policies. Some companies have also enforced contract provisions that permit the company to recoup previously awarded compensation if the recipient of such compensation is found to have engaged in or to be otherwise responsible for corporate wrongdoing. Finally, prosecutors may consider whether provisions for recoupment or reduction of compensation due to compliance violations or misconduct are maintained and enforced in accordance with company policy and applicable laws.5

The Compliance Guidelines help compliance professionals understand what effective compliance programs should look like: something that will either prevent criminal misconduct or demonstrate to DOJ investigators that any employee misconduct that does happen should not be fully imputed to the company itself. Monaco’s more recent policy announcements regarding clawbacks describe the types of features a company should expect to see in a criminal resolution, whether or not the company’s compliance program already enabled the company to clawback employee compensation. A pre-existing compliance program, therefore, that creates an expectation that compensation may be clawed back or recouped by the company if the employee is later found to have engaged in criminal misconduct will help the company earn credit with DOJ for having an effective compliance program and, in the unfortunate event of a criminal investigation, help the company recoup or clawback funds from culpable employees without also violating employment laws. Indeed, if a company claws back funds from an employee only to have that employee initiate a lawsuit, then the company arguably loses much—if not all—of the benefit it gained by recouping those funds.

OVERVIEW OF EMPLOYMENT LAW PROVISIONS THAT MAY IMPACT ENFORCEABILITY OF CLAWBACK PROVISIONS

Companies attempting to restructure and implement recoupment or clawback regimes for executive or employee compensation need to be wary of state wage laws. For example, employee salary is typically considered “wages” under state wage protection laws, whereas certain commissions and discretionary and incentive bonuses may not enjoy the same statutory protections.6 How a state defines “wages” and enforces its wage protection laws will impact the ability of a company to implement a clawback program. This is because many states prohibit employers from requiring repayment of “wages”, even when the employee agrees. The state’s wage laws, and definition of “wage” will impact what compensation, if any, may be contractually clawed back by an employer. When crafting clawback policies and contracts, careful attention will need to be paid to what kinds of compensation would be considered “wages” and what kinds of compensation would be excluded from any applicable definition of “wages” under state wage protection laws. Otherwise, the effective reach of any clawback policy will be limited by state wage laws.

In New York, for example, wages include an employee’s earnings for labor or services, regardless of whether the amount of earnings is determined on a time, piece, commission or other basis.7 Executives are included under the term “employee” for purposes of the state law, and they receive wage protections.8 New York law prohibits an employer from making “any deduction from the wages of an employee” unless permitted by law or authorized by the employee for “insurance premiums, pension or health and welfare benefits, contributions to charitable organizations, payments for United States bonds, payments for dues or assessments to a labor organization, and similar payments for the benefit of the employee.”9 Bonuses and incentive compensation based on the success of the business overall and bonuses that are completely discretionary are not considered wages and do not have protection under the law.10 A clawback policy and/or contract provisions that focus on these forms of compensation as being subject to clawback have a greater chance of being enforceable in New York under applicable state law.

Meanwhile, California has a broad definition of the term “wage.” Under California law, the term “wage” includes “all amounts for labor performed by employees of every description, whether the amount is fixed or ascertained by the standard of time, task, piece, commission basis, or other method of calculation.”11 The term includes bonuses and profit-sharing plans as well.12 The law explicitly forbids employers from collecting any part of wages paid to an employee.13 California extends these wage protections to highly compensated executives and salespeople in addition to hourly employees.14 The protections are nonnegotiable and may not be waived by parties. State law mandates that “once the right to compensation has vested, it has been earned and cannot be recouped.” As such, it may be difficult to craft a clawback provision that could be enforced under California law and careful attention will need to be paid when attempting to draft any such provisions.

The Wage Act in Massachusetts also offers strong wage protections but includes a narrower definition of wage than in California. Massachusetts law requires an employer who fails to pay an employee all “wages earned” to be held liable for three times that amount plus interest and attorneys’ fees.15 Wages are defined as compensation that is “(1) related to an employee’s work, (2) earned through the performance of such work, (3) free of any materially unsatisfied contingencies, (4) non-discretionary in nature, and (5) subject to an express obligation to pay upon termination of employment.”16 The term encompasses commissions but not payment based on over-all success of the business or profit distributions.17 Executives may be considered employees under the Wage Act, and they cannot exempt themselves by contract or otherwise from the provisions of the Act.18 Therefore, depending on how an executive’s bonuses and discretionary compensation and related clawback provisions are structured, it is possible for such categories of compensation to be clawed back.

Virginia materially differs in its approach as compared to the other jurisdictions listed above. In Virginia, a trial court in Geneva Enterprises explicitly left open the possibility that a company could implement a clawback program with a contract.19 The court stated many times that an employer could only recover salary, bonuses, and other compensation from a period of an employee’s wrongdoings if there was a contract that provided for this relief.

As the foregoing demonstrates, whether and how to structure clawback agreements will vary greatly depending on which state law applies. Companies should consult with counsel familiar with the law of each applicable jurisdiction in order to structure any clawback agreements appropriately.

FIXING THE ROOF WHILE THE SUN IS SHINING

DOJ has long emphasized compensation programs as a significant component of a strong corporate compliance regime: investigators look for compensation systems that use financial rewards to encourage compliant behavior and monetary penalties as a way to discipline violators. With the Criminal Division’s more recent emphasis on clawback provisions, companies that lack the ability to recoup or clawback bonuses or other types of financial compensation from employees or executives who are found to have violated corporate compliance policies or broken the law should consider ways that they might promote the company’s compliance culture by building recoupment or clawback provisions into their compensation packages. The details of these recoupment provisions will necessarily vary by industry and company and, of course, based on applicable state employment laws. That said, the cases listed above provide examples of concepts companies may consider:

• Right to recoup [x] months or years of compensation (discretionary bonus payments are more likely to be subject to recoupment under state laws, but some states may permit non-discretionary compensation to be clawed back as well) based on certain types of compliance or legal violations and when the misconduct occurred;
• Eligibility for bonuses contingent on the individual’s or department’s compliance record for a defined previous time period;
• Specifying right of company to terminate employment “for cause” if employee is found to have violated certain policies or if a department or group for which an executive is responsive fails certain compliance metrics; and/or

• Making the distribution of deferred compensation packages contingent on a strong compliance record.

Again, the viability of any or all of these options must be analyzed against the context of each potentially applicable state’s wage laws to determine the best ways to structure or define the compensation packages in employment agreements and the conditions precedent for payment and clawback of such compensation in such employment agreements.

RECOUPMENT PROVISIONS AS MITIGATING FACTORS IN INVESTIGATIONS

DOJ has a long history of scrutinizing corporate compliance programs during criminal investigations, evaluating how the structure and operation of the programs fostered or detracted from a culture of compliance within the organization. The recent emphasis on a company’s ability to recoup or “claw back” compensation previously paid to employees or executives provides a strong signal that DOJ wants to see that companies are taking reasonable steps to enable the organization to hold individuals financially accountable for non-compliant conduct. Implementing appropriate compensation recoupment provisions now, i.e., before an investigation begins, can pay dividends by making it clear that there may be financial consequences when employees violate company policies or break the law. The contours of any such recoupment provisions will depend on applicable state laws but variances among state legal requirements should not dissuade companies from including them.

This article was written with assistance from Sydney Sznajder and Emily Loftis.

ENDNOTES

1. DOJ announcement, The Criminal Division’s Pilot Program Regarding Compensation Incentives and Clawbacks (Mar. 3, 2023), https://www.justice.gov/ criminal-fraud/file/1571941/download.
2. DOJ announcement, The Criminal Division’s Pilot Program Regarding Compensation Incentives and Clawbacks (Mar. 3, 2023), https://www.justice.gov/ criminal-fraud/file/1571941/download.
3. DOJ press release: Deputy Attorney General Lisa Monaco Delivers Remarks at American Bar Association National Institute on White Collar Crime (Mar. 2, 2023), www. justice.gov/opa/speech/deputy-attorney-general-lisa-monaco-delivers-remarks-american-bar-association-national.
4. DOJ press release: Deputy Attorney General Lisa Monaco Delivers Remarks at American Bar Association National Institute on White Collar Crime (Mar. 2, 2023), www. justice.gov/opa/speech/deputy-attorney-general-lisa-monaco-delivers-remarks-american-bar-association-national.
5. DOJ Crim. Div., Evaluation of Corporate Compliance Programs (last updated Mar. 2023) (emphasis added), www.justice.gov/criminal-fraud/ page/file/937501/download.
6. Int’l Bus. Machines Corp. v. Bajorek, 191 F.3d 1033 (9th Cir. 1999) (holding that stock options were not wages for purposes of the California wage payment law); Int’l Paper Co. v. Suwyn, 978 F. Supp. 506 (S.D.N.Y. 1997) (holding that incentive compensation dependent upon the financial results of the employer are not wages for purposes of New York’s wage-payment statute); but see Hartman v. Baker, 766 A.2d 347 (Pa. Super. 2000) (stating Pennsylvania wage law protects incentive compensation).
7. Y. Lab. Law § 190.
8. Pachter v. Bernard Hodes Grp., Inc., 891 N.E.2d 279, 281 (2008)
9. Y. Lab. Law § 193.
10. See Truelove v Northeast Capital, 95 NY2d 220, 224, 738 N.E.2d 770, 715 N.Y.S.2d 366 (2000); Ferrari v Keybank Nat’l Ass’n, 2009 U.S. Dist. LEXIS 160, 2009 WL 35330 (WDNY Jan 5, 2009).
11. Lab. Code § 200.
12. Neisendorf v. Levi Strauss & Co., 143 Cal. App. 4th 509 (2006).
13. Lab. Code § 221.
14. Davis v. Farmers Ins. Exchange, 245 Cal. App. 4th 1302, 1331 (2016) (“The Labor Code’s protections are ‘designed to ensure that employees receive their full wages at specified intervals while employed, as well as when they are fired or quit,’ and are applicable not only to hourly employees, but to highly compensated executives and salespeople.”).
15. Gen. Laws ch. 149, § 148.
16. Mui v. Mass. Port Auth., 32 Mass. L. Rep. 567, 2015 Mass. Super. LEXIS 38 (Mass. Super. Ct. 2015).
17. O’Connor v. Kadrmas, 135 N.E.3d 226, 238 (Mass. App. 2019).
18. Stanton v. Lighthouse Financial Services, Inc., 621 F. Supp. 2d 5 (2005) (Company president’s base salary constituted “wages” under the statute and his agreement to defer wages was void under Mass. Gen. Laws ch. 149, § 148. The president was an employee for purposes of Mass. Gen. Laws ch. 149, § 148).
19. Geneva Enters., LLC v. Bavely, 107 Va. Cir. 249 (Fairfax Cnty. 2021) (“the clear principle is that forfeiture is disfavored, and unless a contract expressly provides for forfeiture, a court will not permit that remedy”).

ABOUT THE AUTHORS

Cormac T. Connor is a partner at Husch Blackwell LLP. A former Assistant United States Attorney with substantial experience in private practice, Cormac defends individuals and corporations facing criminal and civil investigations including fraud, False Claims Act, criminal antitrust, and Foreign Corrupt Practices Act claims.

Michael Schrier is a partner at Husch Blackwell LLP. He represents federal contractors, grant recipients, and companies and institutions doing business with or having matters before the U.S. Government, including Construction Litigation, Labor & Employment, Davis-Bacon Act, Service Contract Act, Contract Disputes Act, and Miller Act.