Requirements of the SEC's Mandated Pay Ratio

Audit|Public Companies

By Tommy Cannon

The Securities and Exchange Commission’s (SEC) pay ratio rule that was mandated by the Dodd-Frank Act requires pay ratio disclosures for a company's first full fiscal year beginning on or after January 1, 2017. For a calendar year company, this means that the initial pay ratio disclosure would relate to calendar year 2017 compensation and would be disclosed in the company's 2018 proxy.  The rule requires public companies to disclose the median of total annual compensation of all employees except the CEO, the total annual compensation of the CEO, and the ratio between the two.  The pay ratio requirement permits registrants to use reasonable estimates to identify the median employee and in determining total compensation of all employees.  Specifically, registrants are permitted to use their entire employee population or statistical sampling and/or other reasonable methods in determining the median employee.  The reason for granting this flexibility was to minimize the overall burden to registrants with their efforts to comply.  In addition, the rule states that both U.S. employees and non-U.S. employees be included in the scope of identifying the median employee. However, with certain limitations, issuers may exempt non-U.S. employees when they account for 5% or less of total U.S. and foreign employees. Per the SEC, a registrant may use “appropriate existing internal records, such as payroll records, in determining whether the 5% de minimis exemption is available.”

The SEC approved additional guidance issued by the Division of Corporation Finance in September 2017 in order to assist companies in their efforts to comply with the pay ratio rule.  The guidance offers hypothetical examples of the use of sampling techniques and other reasonable methodologies and clarification of language in the instructions.   Registrants must derive the data used in the pay ratio from their own records and not rely on industry data or estimates. 

For more information, visit https://www.sec.gov/corpfin/announcement/guidance-calculation-pay-ratio-disclosure. For more information on the disclosure’s practical considerations, contact us.

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