I’m tempted to start off with “Oh what a tangled web …” but that’s too easy. The current contretemps surrounding AIG is exactly where one ends up when trying to be too slick.

The details are everywhere but as usual the NYT and WSJ have pretty complete, concise coverage, so those two sources will give you all the detail that you need. Just to summarize, AIG is on the hook for the payment of bonuses to its employees on the order of $1.2 billion. Here’s how it breaks down:

1. It owes the executives of its financial products unit $450 million in bonuses.
2. Incentive bonuses amounting to $121.5 million are owed to approximately 6,400 employees (the company employs 116,000). These employees are spread throughout the company.
3. Retention payments of $600 million are being made to 4,000 employees. 

The entire subject was evidently the subject of a testy exchange between Edward Liddy, the CEO of AIG, and Treasury Secretary Geithner. Geithner is upset because Congress us upset and because this is politically a bitch. Liddy said that it pained him to pay the bonuses but he had no choice since they were owed under the terms of existing contracts, all of which were entered into prior to the government’s involvement with AIG. Geithner is even more upset because he has to agree that the contracts do rule.

So there you are. It seems to me that the really questionable piece of the whole is the payments to the financial products unit employees. This is the group that exploded the whole company. I appreciate that there were contracts governing the payment of money to these employees but those contracts must have been based on a given level of performance. Perhaps those performance bogeys were hit at least on paper and the payment triggered but the sudden collapse of that unit certainly begs the question as to how it all unraveled so quickly.

Maybe those bonuses should be placed in some sort of a trust account and a few good investigators dispatched to unravel the ball of twine in that section of the company. If things are on the up and up then pay the money, if not there are more than a few good legal theories that could explode the contractual obligations.

As for the rest of the money, it’s probably in our best interests as owners of AIG to pay. Holding the good parts of this company together until they can be sold is the only way to limit our losses at this point. I suspect that most of the AIG crew are just hard working stiffs like the rest of us and punishing them for something they had no control of may just be cutting off our noses to spite our faces.

The real lesson here is that you create a swamp that will suck you down when political solutions are employed for business problems. Chapter 11 provides a superb way of dealing with these sorts of problems — it invalidates all contracts. Were we there now instead of in the midst of a political circus rational decisions could be made for these contingencies.

Note To Tim Geithner And Associates:

Think long and hard about all of this before you wade into the swamp once again with GM.