Taxes, subsidies, and executive compensation

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Several recent reports call for changes to the tax treatment of executive compensation. To broaden the appeal of the proposals, the reports' authors claim that the tax system subsidizes corporations' payments of performance-based compensation to their top executives. If the payments were subsidized, the case for changing their tax treatment would be strong. Even if the government should not prohibit or penalize performance-based executive compensation, it is hard to imagine any reason for the government to subsidize it. 

In reality, however, the tax system does not subsidize performance-based executive compensation. Although payments of the compensation can be deducted as ordinary business expenses and are therefore not taxed at the employer level, they are taxed at the employee level, because the executives pay individual income tax on the compensation. Taxing the employee, but not the employer, is the normal income tax treatment that applies to nearly all employee compensation. Because performance-based executive compensation receives nothing better than normal tax treatment, it is not subsidized. 

An activity that receives treatment more favorable than the treatment prescribed by normal tax rules is subsidized, no less than if it had received benefits from a government spending program. As the tax expenditure lists make clear, many activities receive government subsidies. But, executive compensation is not one of them because it does not receive preferential tax treatment. 

Viard: Taxes, Subsidies, and Executive Compensation

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Alan D.
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