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How Jim Jordan tried to connect the dots on Biden’s $8 million book deal

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With its energy network nearly destroyed, Ukraine already fears the winter

Russia shows resilience. There is more to do for Ukraine.

Trump promises tax cuts and fewer rules. CEOs shouldn’t fall for it.

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Carolyn Hax: Is it weird to ask other people to care about you?

Ask Amy: Can’t a single woman eat alone without interruption?

Miss Manners: Miss Manners: Gag gift falls flat

At campus protests, ‘DO NOT TALK TO THE MEDIA’!

Trump’s lawyer charges Michael Cohen lied to jury

CNN gets a presidential debate — and a much-needed win

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Book Tour: At home with Amor Towles

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Blue Origin to fly again as space tourism struggles to get off the ground

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Man, 91, shocks tiny firehouse with $500K gift: ‘Nobody knew how much I’d saved’

Trump

Twenty-five years ago, Bill Clinton <a href="http://www.4president.org/brochures/billclinton1992brochure.htm">campaigned</a> on an idea for limiting excessive <a href="https://www.politico.com/agenda/story/2016/08/bill-clinton-ceo-pay-reform-000195">pay</a> for American CEOs: Cap the tax deductibility of top executives' compensation at $1 million, and companies, not wanting bigger tax bills, might reel in their pay. In his 1993 <a href="https://www.washingtonpost.com/news/wonk/wp/2012/08/16/bill-clinton-tried-to-limit-executive-pay-heres-why-it-didnt-work/?utm_term=.c35e604ac03e">budget</a>, <a href="http://robertreich.org/post/55703541696">advisers suggested</a> a compromise: Companies couldn't deduct CEO pay over $1 million unless it was "performance-based."

But many believe the loophole had the opposite effect, driving companies instead to pay more in stock options and certain performance-based bonuses, which actually supercharged the growth in CEO pay. In 1989, according to the left-leaning <a href="http://www.epi.org/publication/ceo-pay-remains-high-relative-to-the-pay-of-typical-workers-and-high-wage-earners/">Economic Policy Institute</a>, the median value of annual CEO compensation was $2.7 million. By 1995 it was $6.6 million, and it reached $13 million in 2016.

"It was, frankly, populist window dressing," said Jim Barrall, senior fellow in residence at the UCLA School of Law and former chair of the executive compensation practice at Latham & Watkins. "What developed in the wake of [the change] is lawyers and companies crafted plans that fit within those limitations."

[The House just passed its big tax bill. Here’s what is in it.]

Now, amid massive corporate tax cuts, the proposals in Republicans' House and Senate bills call for the loophole to be <a href="https://www.natlawreview.com/article/executive-compensation-firing-line-under-tax-bills-section-162m-1-million-deduction">eliminated</a>. If the proposals were to move forward, companies would no longer be able to <a href="https://www.natlawreview.com/article/executive-compensation-firing-line-under-tax-bills-section-162m-1-million-deduction">deduct</a> the "performance-based" part of the compensation for their CEO, chief financial officer and three other highest-paid executive officers, meaning the maximum that's deductible would be $1 million. The Joint Committee on Taxation's own <a href="https://waysandmeans.house.gov/wp-content/uploads/2017/11/20171106-JCT-Estimated-Revenue-Effects-of-Amendment-in-the-Nature-of-a-Substitute-to-H.R.-1.pdf">estimates</a> say getting rid of the exception would raise $9.3 billion in revenue over the next 10 years.

But just because adding a loophole played a role in sending CEO pay skyward decades ago does not mean removing it will bring it back down to earth. Executive pay experts and activists said in interviews that companies are unlikely to severely limit the size of their CEOs' compensation just because a big portion of it -- the vast majority of those multimillion-dollar packages are paid in incentive-based pay -- is no longer deductible.

The 1993 change, said Steve Seelig, a senior regulatory adviser for executive compensation at Willis Towers Watson, may have been seen to have "a profound impact on the amount and structure of compensation programs. But repealing [the exception] is not going to have the same impact in reverse."

That's for several reasons. For one, particularly relative to the big tax cuts companies stand to receive in the GOP tax bills, the hit they'll face from closing the loophole won't mean much for many companies. For larger companies, "I don’t think it’s material, especially at much lower tax rates," Barrall said. He gives the example of a company that currently gets to deduct, say, $10 million in performance-based pay for a CEO. At the <a href="https://www.washingtonpost.com/news/wonk/wp/2017/11/16/the-house-is-voting-on-its-tax-bill-thursday-heres-what-is-in-it/?utm_term=.08e9bfa52067">proposed</a> 20 percent corporate rate, the new tax cost would be $2 million.

Companies also already regularly forfeit the deductions when they pay salaries above $1 million, for instance, or when they give out restricted stock grants that are not tied to performance, a common practice. Steven Balsam, a professor at Temple University who has studied the issue, said the percentage of companies that pay salaries above $1 million -- cash compensation that would not be subject to the deduction -- has been growing over time. Former General Electric CEO Jeffrey Immelt, for instance, received a $3.8 million <a href="https://www.sec.gov/Archives/edgar/data/40545/000120677417000738/ge_courtesy-pdf.pdf">base salary</a> in 2016.

Another reason some don't expect big changes is because CEO pay is often tied to what their peers make. Corporate boards examine what CEOs at other companies are earning to help set pay, which governance experts say creates a me-too phenomenon that inflates CEO pay. Eliminating the tax loophole doesn't do anything to change that, said Charles Elson, director of a corporate governance center at the University of Delaware.

"Taxation policy cannot be used to lower executive pay," he said. "It's only going to be lowered when you rethink how pay is put together."

[Companies may end up revealing big pay gaps between their CEOs and workers after all]

Still, some see the potential for change. Investors, stung by high pay packages that would effectively cost shareholders more under the proposed change, could shine a bigger spotlight on the most egregious examples. Steven Clifford, author of "<a href="https://www.penguinrandomhouse.com/books/549465/the-ceo-pay-machine-by-steven-clifford/9780735212398/">The CEO Pay Machine</a>" and a former CEO himself, said it could open the door to more scrutiny from investors.

"It could be a real wake-up call to boards that it’s time to start acting responsibly," he said, bringing about more pressure and giving boards "the backbone they need" to rethink executive pay. "When the whole Republican party starts saying 'you’ve gone too far,' you’ve really gone too far." For such a business-friendly Congress to say "we're going to tax CEO pay -- this is rather surprising."

Some also raise a potential downside. Eliminate the tax advantage for pay based on performance -- a nearly ubiquitous belief in corporate boardrooms today -- and it's possible it could lead directors to give CEOs more "fixed" pay, whether in the form of higher cash salaries or more stock that's not tied to performance. Balsam says he's working on a paper that looked at what happened when chief financial officers' pay was no longer subject to the limitation, and found that there was indeed more of a shift toward base salary. "If you no longer could deduct stock options or bonus plans, that’s one less reason to offer that."

Yet most think changes will be around the margins, and that closing a loophole that helped precipitate a big expansion in executive pay won't do much to reduce it. Even shareholder activist groups don't expect big changes if the loophole gets closed.

"I’d be pretty skeptical that that change on its own will have much effect," said Richard Clayton, research director at CTW Investment Group. "It's a relatively small increase in taxes for executives that’s set against a very big decrease in what the standard corporate tax rate will be."

<a href="https://www.washingtonpost.com/news/on-leadership/wp/2015/08/04/this-new-rule-could-reveal-the-huge-gap-between-ceo-pay-and-worker-pay/">This new rule could reveal the huge gap between CEO and worker pay</a>

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BA, History and Journalism, University of Georgia

Jena McGregor writes on leadership issues in the headlines – corporate management and governance, workplace trends and the personalities who run Washington and business. Prior to writing for the Washington Post, she was an associate editor for BusinessWeek and Fast Company magazines and began her journalism career as a reporter at Smart Money. 

Jena McGregor

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