Friday, June 7, 2013

Compensation Caps - House Armed Services Committee's Markup

The House Armed Services Committee (HASC) passed the 2014 NDAA (National Defense Authorization Act) by a vote of 59-2 yesterday. The Bill, as it comes out of committee rejects the President's proposal to cap executive compensation at $400 thousand (the President's salary). Instead, the Committee wants to set up a formula that doesn't reduce the current compensation cap but will stem the growth of what is allowable under Defense contracts.

Here's what the HASC fact sheet states:

Executive Compensation Reform: The White House’s formula for calculating allowable private sector compensation on DOD contracts has become dysfunctional and no longer meets the needs of industry or the taxpayer. The FY14 NDAA excludes the salaries of large contractors’ top five earners from allowable expenses on federal contracts and freeze the current employee compensation baseline, only adjusting for the economic cost index going forward. The Chairman’s mark rejects calls by some to cap individual industry salaries at the President or Vice President’s salary level. The Chairman believes this is an inappropriate and arbitrary comparison that will drive talent from the nation’s defense industrial base. Instead reform should focus on reasonable expenses given the market conditions that determine what a contractor needs to pay to recruit and retain talent.

Did we read that right? The 2014 NDAA, if passed as is, would disallow all compensation for the top five earners? We did. That's what it states and that's what others have reported. Certainly a lower cap is better than this draconian provision. The actual wording reads as follows:

Section 812—Limitations on Allowable Costs for Contractor Compensation 
This section would amend section 2324(e)(1)(P) of title 10, United States Code, to replace the current statutory benchmark compensation formula used to determine the amount of contractor compensation that is considered an allowable cost on a Department of Defense contract. This section would limit additional changes to the current compensation baseline to the U.S. Bureau of Labor Statistics Employment Cost Index (ECI). The Administrator for Federal Procurement Policy has previously set the adjusted compensation benchmark amount for fiscal year 2013 at $763,209. This section would also make unallowable the entire cost of compensation for the five most-highly compensated employees of a contractor that meets statutory requirements for compliance with cost accounting standards on a Department of Defense contract. This section would exempt small business concerns from such limitation.  
The committee believes application of the current formula by Office of Federal Procurement Policy is flawed, as it has resulted in an escalation of $422,559, or nearly 225 percent, in the 15 years since the compensation cap was established in law. The committee does not believe this escalation reflects the actual adjustments in compensation for defense contractors over this same period due to inflation and other market factors. The committee notes that section 1127 of title 41, United States Code, directs the Administrator for Federal Procurement Policy to "review commercially available surveys of executive compensation and, on the basis
of the results of the review, determine a benchmark compensation amount to apply for each fiscal year." The Administrator is also directed to consult with the Director of the Defense Contract Audit Agency and other officials of executive agencies in making the determination. However, rather than using all available data and input from appropriate officials to inform decision-making, it appears that the Administrator has interpreted the requirements of section 1127 to require that the benchmark compensation amount be established at an amount equal to the median amount of the total compensation (total amount of wages, salary, bonuses and deferred compensation) accrued over a 12-month period for the top five highest paid employees in management positions at each home office and each segment of publicly traded U.S. companies with annual sales over $50.0 million. According to the Congressional Budget Office, if the current approach remains in place the compensation cap could be raised to as high as $1.6 million by fiscal year 2020. 
The OMB (Office of Management and Budget) is already on record as saying their proposal (the $400 thousand cap) is better than HASCs. Something is bound to happen this year concerning compensation. It will be a long process before a bill is signed by the President.

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