Time 'Ripe' For Change To Executive Pay Tax Laws

by Leroy Baker, Tax-News.com, New York

08 September 2006

After pressing government officials for details on how they are prosecuting the latest corporate scandal of stock options backdating, Senate Finance Chairman Chuck Grassley said Wednesday that he will continue to examine whether the tax policy that apparently encouraged backdating is "ripe for change".

In a scathing attack on executives who have benefited from backdated stock options, Grassley remarked that the practice at some of the nation’s largest companies "threatens American values of equal opportunity for economic advancement and fairness".

“It is behaviour that, to put it bluntly, is disgusting and repulsive,” Grassley said. “It is behaviour that ignores the concept of an ‘honest day’s work for an honest day’s pay’ and replaces it with a phrase that we hear all too often today, ‘I’m going to get mine'."

Grassley convened a hearing to hear from the Justice Department, the Securities and Exchange Commission, and the Internal Revenue Service about how they are responding to this unfolding scandal, and what Congress can do to aid their efforts. The hearing also featured testimony from experts on whether the federal tax treatment of executive compensation is working as intended to discourage excessive executive compensation.

In general, a 1993 law says that for publicly traded corporations, all executive compensation above $1 million cannot be deducted unless it is performance-based. According to the expert witnesses, many companies have stretched the rules to classify executive compensation as performance-based so they can deduct it, and many executives’ basic salaries exceed $1 million. All compensation for non-executive employees is generally tax-deductible.

Grassley said the 1993 law, which he did not support, was meant by its advocates to deny tax deductions when there was a great deviation between what executives got paid and what people further down the ladder got paid. “It was well-intentioned,” Grassley observed. “But it really hasn't worked at all. Companies have found it easy to get around the law. It has more holes than Swiss cheese."

Testifying before the panel, IRS Commissioner Mark W. Everson suggested that the agency could be more effective in helping to crack down on stock option backdating if certain taxpayer privacy laws were loosened to allow taxpayer data to be shared with the Securities and Exchange Commission and the Justice Department.

According to Everson, the IRS has referred around 25 corporate executive pay cases for criminal investigation this year, although it is not known how many involve options backdating.

Meanwhile, SEC Chairman Christopher Cox told the panel that the Commission has about 100 investigations open related to options backdating.

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