The New York State Department of Health recently issued proposed regulations establishing new limits on executive compensation that may be paid by organizations or individuals ("funding recipients") who receive state funds or state-authorized payments ("state funds") in connection with their activities. The proposed regulations, which would take effect on January 1, 2013, implement an Executive Order issued by Governor Cuomo that applies to the Department of Health as well as other state agencies that provide state funds to providers of services. The regulations are more complex than they initially appear, and may have potentially far-reaching implications on a practical level for both existing and future executive arrangements maintained by funding recipients. The new rules are of particular concern for organizations that receive a high level of state funding, including mental health organizations and nursing homes, and may also apply to charter schools and similar entities.
Covered Providers Under the New Rules
Under the proposed regulations, a funding recipient will generally be considered a "covered provider" subject to these new compensation limits if:
over a three-year reporting period, the funding recipient receives an average annual amount of state funds in excess of $500,000 for purposes of rendering program services; and
at least 30 percent of the total annual in-state revenues of the funding recipient for the most-recent reporting period were derived from state funds (with total revenues measured at the parent level if the funding recipient is part of a parent-subsidiary consolidated group).
The regulations exclude certain governmental units, tribal governments and childcare service providers from the definition of "covered provider." For these purposes, a reporting period is the calendar year or applicable fiscal year of the covered provider.
Organizational Expenses and Executives Subject to Limits
The regulations bifurcate expenses into "program service expenses" and "administrative expenses" for purposes of setting the new executive compensation limits. Program service expenses are those expenses incurred directly in connection with the provision of services to the general public. Administrative expenses, in contrast, are generally those relating to the covered provider's overall management and necessary overhead that do not qualify as program service expenses. Examples of administrative expenses include salaries and benefits of staff performing administrative coordination functions (e.g., the executive director, CEO, CFO, accounting personnel and human resources personnel).
A covered provider that is subject to the new rules would be required to limit the annual amount it pays to each of its "covered executives," or risk imposition of sanctions. An individual will be considered a covered executive for these purposes if he or she is a director, trustee, managing partner or officer whose salary and/or benefits, in whole or in part, are administrative expenses as defined above. The term "covered executive" also includes any other employee of the covered provider whose salary and/or benefits are administrative expenses and whose annual compensation during the reporting period is $199,000 or higher.
New Limits on Executive Pay
For the period commencing January 1, 2013, unless a covered provider has obtained a waiver from New York state, the covered provider (and certain related entities) are prohibited from using state funds to pay "executive compensation" to a covered executive in an annual amount greater than $199,000. The concept of executive compensation is broadly defined to include all forms of reportable cash and noncash compensation or benefits, including salary, bonuses, vehicles, meals, housing and other cash and non-cash compensatory items (excluding mandated benefits such as Social Security and health benefits provided to employees generally). Presumably, this would include such compensatory items as deferred and equity-based compensation, but the regulations do not specifically address how to handle those items. Note that this concept apparently differs from the "salary and/or benefits" concept utilized to determine who is considered a "covered executive" in the first instance. A covered provider is permitted to exceed the $199,000 annual limit if it pays executive compensation (as defined above) using other sources of funds in addition to state funds, but only if the following requirements are satisfied:
such compensation is not greater than the 75th percentile for comparable executives of comparable employers based on an approved compensation comparability survey; and
compensation is reviewed and approved by the covered provider's board of directors (or equivalent body), including at least two independent directors, where the review included an assessment of the comparability data.
The new regulations establish procedures allowing a covered provider to obtain a waiver of these requirements upon the covered provider's showing of good cause. In the absence of a waiver, the covered provider's failure to satisfy these rules would expose the covered provider to imposition of state sanctions, including (1) redirection of state funds where permitted so that they are used for program services instead of administrative expenses; (2) suspension, modification or revocation of the covered provider's license to operate program services; and (3) suspension or termination of contracts or agreements with the covered provider.
What Should Employers Consider Doing Now?
With the advanced lead-time before the effective date of the proposed regulations at the beginning of next year, employers may want to review their activities (and those of related entities) and determine whether they could be considered a covered provider that has covered executives subject to these new requirements. If so, it may be prudent to give thought to the potential application of these requirements on a practical level and the availability of a waiver.
For Further Information
If you have any questions about this Alert, please contact any of the attorneys in our Employment, Labor, Benefits and Immigration Practice Group, any of the attorneys in our Health Law Practice Group or the attorney in the firm with whom you are regularly in contact.