How CEOs could help pay for tax reform

When Congress passed the Dodd-Frank Act, it included a requirement that U.S. companies annually report the ratio between their CEO and median worker pay. This modest provision takes effect this year, but it’s unlikely to reverse America’s widening pay gap.

In fact, if President Trump has his way on tax reform, the earnings gap will get much worse courtesy of the federal government.

{mosads}That’s not to say tax reform isn’t needed; in fact, it’s long overdue. But tax reform needs to put working families first, not overpaid CEOs and top executives. Furthermore, it shouldn’t add to the national debt, which means that lower corporate rates must be paid for by eliminating some of the trillion dollars in tax breaks handed out each year. 

One way to ensure that CEOs and their firms don’t gouge the American taxpayer under the guise of tax reform — and offset the cost of lowering the corporate tax rate — would be for Congress to take a simple, straightforward step: eliminate the tax break for excessively high CEO pay. First a little history. Back in 1993, I worked in the Clinton White House on a plan to curb stratospheric CEO paychecks. At the time, companies were allowed to deduct all compensation to top executives. So, to eliminate that incentive to overpay executives, we capped the amount at $1 million unless the pay was performance-based.

Why did we create an exemption for performance-based pay? Two reasons: First, some startups lack the capital needed to attract high-end talent to their firms. So many give highly valued employees stock options and other incentive pay measures to compensate for modest pay. Second, we hoped firms would base performance-based incentives on their revenues and profits, rather than their stock price (keep in mind that stock options were still new; the first was offered in 1985).

Nonetheless, CEO compensation kept rising, in large part thanks to a tech boom and soaring stock market. Furthermore, to avoid the cap set in the 1993 law, firms began to shift compensation packages toward stock options and bonuses, with huge payouts going to corporate executives even when their firm’s performance was on the decline. Seven years after the law went into effect, the market value of the median executive compensation at S&P 500 firms tripled.

Now Congress and the Trump administration have a chance to close the stock option loophole as part of tax reform. By eliminating the deduction for any type of compensation above $1 million (including all performance-based incentives), they can simplify the tax code, abolish the taxpayer subsidy for irresponsible compensation, and restore bonuses and stock options to their original purpose of rewarding good performance rather than as a means to avoid paying taxes.

Eliminating the deduction altogether would raise needed revenue, with estimates ranging anywhere from $1 billion to $5 billion a year — money that could be used to partially offset the cost of tax reform and reducing the corporate rate to a level that will make the U.S. more competitive with our trading partners.

It’s not the government’s job to decide how much CEOs make. But at a time of growing inequality, it’s not the government’s job to give tax breaks for executive pay, either.

Paul Weinstein Jr. is a senior fellow at the Progressive Policy Institute and directs the Graduate Program in Public Management at Johns Hopkins University.

The views expressed by contributors are their own and are not the views of The Hill.