The U.S. Treasury Department is pushing American International Group to cut big pay incentives it claims were needed to retain staff, but which have stoked a controversy over pay at taxpayer-supported firms.

The Treasury's pay czar has informed AIG management that some portion of the total of $198 million should be reduced, according to a report prepared by a watchdog agency for the government's $700 billion financial bailout fund.

The report from the special inspector general for the Troubled Asset Relief Program says Treasury official Kenneth Feinberg has not specified the amount by which retention payments -- essentially bonuses aimed at keeping people from quitting -- should be reduced.

It is unclear whether he can compel AIG to lower them.

AIG issued a statement in response to the report saying it was talking with Feinberg about several compensation issues including future payments to employees at its financial products (FP) division who have been asked to return some.

FP employees have until the end of the year to fulfill their commitments to return a portion of their March 2009 payment, AIG said. We expect FP employees will honor those commitments.

Feinberg, a Washington lawyer, is supervising pay practices at the seven companies including AIG that received extraordinary government assistance. The other six are Citigroup Inc , Bank of America Corp , General Motors, Chrysler, General Motors Acceptance Corp and Chrysler Financial.

AIG became a focal point for congressional and public anger over pay practices at government-supported financial firms when it was revealed in March that it was offering millions of dollars in retention payments to employees.

The report said the payments were consistent with the law in place at the time the payments were made, but noted that after the public outcry about them AIG asked for a voluntary return of part of the awards.

It said only a partial collection of the repayments asked for has been received.

According to the report, AIG executives asked employees who had received retention awards over $100,000 to return 50 percent. As of August 31, pledges had been received to give back about $45 million and about $19 million of actual repayments had been made.

The report implies that the Treasury should have been more attentive to AIG's pay practices, but says Treasury Secretary Timothy Geithner's staff did not keep him adequately informed about an AIG plan to hand out bonus payments.

Treasury invested $40 billion of taxpayer funds in AIG, designed AIG's contractual executive compensation restrictions and helped manage the government's majority stake in AIG for several months, all without having any detailed information about the scope of AIG's very substantial and very controversial, executive compensation obligations, the SIGTARP report said.

It said that represented a missed opportunity to avoid the explosively controversial events and created considerable public and Congressional concern about the payments.

Geithner headed the New York Federal Reserve Bank before being chosen as Treasury Secretary last January -- both positions that potentially should have given him insight into AIG's complicated pay practices.

But the report also said it found no indication that Secretary Geithner had personal knowledge of the AIGFP (financial products) bonuses until March 10, 2009, three days before they were paid.

That represented a failure of communications, the inspector general said, but one it blamed on sloppy staff work instead of calling it Geithner's fault.

His lack of knowledge until the eve of the payment of the bonuses represents a failing at both (New York Fed) and Treasury to adequately identify the significance of an issue that had been identified as one that would 'not (be) easy for the Fed and Treasury to defend', the report said.

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