Does the Bailout Ignore Homeowners, Execs?

Sept. 29, 2008 — -- The compromise financial industry bailout bill -- like most things out of Washington -- has a little bit of everything for all parties but also falls short of what some had hoped to get out of the bill.

Nobody seems in love with it, but leaders from both parties called its passage essential to get the U.S. economy back on track.

There are limits to executive pay and requirements to help homeowners struggling with their mortgages, but neither of those sections of the bill are as strong as originally proposed.

"It's not a bill that any one of us would have written. It's a much better bill than we got. It's not as good as it should be," Rep. Barney Frank, D-Mass., the House Financial Services Committee chairman, said Sunday night.

CLICK HERE for the full text of the bailout legislation in PDF form.

"This agreement, while not perfect, will help stabilize the economy," added Senate Majority Leader Harry Reid during the same news conference.

The main thrust of the bill, called the Emergency Economic Stabilization Act of 2008, gives the Treasury Department $250 billion to immediately start buying up troubled assets -- such as mortgages -- from banks and other financial institutions. The president can spend an additional $100 billion if needed, and a final $350 billion is available unless Congress votes not to spend it.

Republicans also added in a provision to create a program that allows banks to buy government insurance to back their existing investments, rather than selling them outright to the government.

It's a way to protect any ultimate losses for the banks' current investments, and it's what Wall Street wanted.

President Bush said this morning that this is a "bold bill that will help keep the crisis in our financial system from spreading throughout our economy."

"Every member of Congress and every American should keep in mind.  A vote for this bill is a vote to prevent economic damage to you and your community," Bush said.

But Americans might be disappointed by a couple provisions. Main Street had called for limits on how many millions of dollars Wall Street executives could be paid and asked for help for homeowners struggling to pay their mortgages. The bill falls short of original expectations in both areas.

Executive Pay

There are pay caps written into the bill, but only for companies that sell more than $300 million in troubled assets to the government. Those companies will be prohibited from making any new employment contracts with their top five senior executives that provide a golden parachute in the event of "involuntary termination, bankruptcy filing, insolvency or receivership."

But that applies only to new contracts. Executives with such big payouts already written into their contracts would be exempt from the new restrictions. A senior treasury official, in a conference call with reporters Sunday night, was very clear that the government would not be breaking existing executive employment contracts.

"We are not abrogating contracts," he said. "Those are contractual obligations between the companies and their employees. This is on a go-forward basis."

Executives in participating companies would no longer be taxed at the normal personal income tax rate for stock options or severance, and would face an additional 20 percent tax on such payouts.

Executives of bailed-out firms who receive bonuses or other awards that later turn out to be based on "materially inaccurate" financial reports will need to give that money back.

The participating companies would also lose part of an existing tax break: Instead of being able to deduct up to $1 million each for the top five executives in the company as part of payroll taxes, they could deduct up to $500,000 each.

"The bill ensures that failed executives don't receive a windfall from your tax dollars," Bush said this morning.

But some disagree.

"The bailout hardly restricts executive compensation," said Peter Morici, a professor at the University of Maryland's Robert H. Smith School of Business. "Those provisions are vague, except for golden parachutes, and really only apply to banks the government would take over."

"Restrictions on compensation do not apply to work performed by incumbent employees until a bank goes bust," Morici added. "Hence, the banks will be free to continue to pay executives through bonus systems that encourage reckless decisions and get banks in further trouble. Only after banks get in trouble again, can the government get involved in compensation and management practices."

So why didn't the bill go further on executive compensation?

Government officials wanted to encourage healthy companies to participate in the program to get rid of their bad assets and be more willing to make new loans. They feared that creating stricter compensation rules would serve as a disincentive.

"We want to encourage all institutions, very healthy institutions, to participate. So we think this is the appropriate way to protect the taxpayers and also get maximum participation," said one treasury official.

"Congress missed a golden opportunity to use the leverage of the bailout to put tough controls on an out-of-control executive pay system," said Sarah Anderson, the global economy project director of the Institute for Policy Studies. "Without clear limits on pay, the public is being asked to put their trust in [Treasury] Secretary [Henry] Paulson, a man who made hundreds of millions of dollars as a Wall Street CEO, to decide what's 'excessive.'"

Help for Homeowners

For homeowners, the legislation would require the treasury secretary to implement "a plan to mitigate foreclosures" and to "encourage servicers of mortgages to modify loans."

That language is weaker than a proposal that was circulated late last week, which called for the government to "maximize and coordinate efforts to modify mortgages for homeowners at risk of foreclosure."

Basically the government will work through Hope for Homeowners and other programs to refinance high-rate mortgages into more affordable fixed-rate mortgages.

There is no money in the bill specifically allocated for homeowner help, and the Treasury Department still has to set up a plan outlining specifically which homeowners would get help and how much.

But as the new owner of these mortgages, it would be in the government's financial interest to stop the tide of foreclosures. How practical that will be is still very unclear.

Mortgages were broken into pieces and sold to a number of investors. If some investors participate in the plan and others don't, the government might be unable to work out a refinancing plan for some mortgages.

Taxpayers on the Hook

Nobody knows exactly how much money this bailout will cost taxpayers. The government can spend up to $700 billion to buy the bad assets, but lawmakers hope to ultimately spend less.

First, not all assets will be purchased outright. Some companies could choose to purchase insurance instead, saving the government millions of dollars.

Next, the government will be given ownership stakes in companies whose assets are purchased. If those companies start turning large profits once they get rid of the bad debt, the government stands to reap some of those profits.

"I know many Americans are worried about the cost of the bill, and I understand their concern," Bush said this morning.

"This bill commits up to $700 billion taxpayer, because a large amount of money is necessary to have an impact on our financial system. However, both the nonpartisan Congressional Budget Office and the Office of Management and Budget expect that the ultimate cost to the taxpayer will be far less than that. In fact, we expect that over time, much -- if not all -- of the tax dollars we invest will be paid back."

If the government is still losing money on the program after five years, the president will have to submit a plan to somehow recoup a portion of the losses from the companies that participated in the bailout. The catch: If the companies don't exist in five years there is no way to get money back from them.

"It does entail risk, taxpayer risk, but we've reduced the taxpayer risk considerably," said Rep. John Boehner, the House minority leader.

"Nobody wants to have to support this bill," the Ohio lawmaker added in comments Sunday night. But, "I'm encouraging every member whose conscience will allow them to support this."