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California Democrats seek to lower CEO pay with tax cudgel

Laws and LegislationBusinessPoliticsStartupsElectionsCompensation and BenefitsCEO Pay
California Senate Democrats want tax penalties for firms with big gaps between CEO pay and median worker wage
Here's how not to address income inequality

This post has been corrected, as indicated below.

Some California lawmakers worry that California is losing too many businesses to other states.

State Sens. Mark DeSaulnier (D-Concord) and Loni Hancock (D-Berkeley) evidently worry that we're not losing enough.

DeSaulnier and Hancock are the authors of SB 1372, a measure that purportedly addresses one of the most talked-about (and, Democrats hope, politically fertile) problems with the U.S. economy: income inequality. Specifically, they take aim at the compensation packages that publicly traded corporations give their chief executive officers. Their bill would change the state's fixed tax rate on publicly traded corporations to a sliding levy that's pegged to the earnings gap between the top-paid executive and the median worker.

Corporations whose top earner's total compensation (that is, salary, stock grants and benefits) is 200 times what their median worker receives in wages would see their state tax rate increase by more than 1 percentage point, to 10% (or 12% for banks, which the Legislature considers extra loathsome). If the ratio is 300 to 1, the bill would boost the rate by more than 3 percentage points. For ratios of 400 to 1 and above, the rate would go up by more than 4 percentage points, or nearly 50%.

That's going to look great on the GO-Biz recruiting brochures!

Granted, the pay doled out to chief executives is galling. But trying to make companies cut their top executive's pay is a silly way to address income inequality. If Oracle Corp. took back every dollar of salary and benefits it paid to CEO Larry Ellison, whose $78.4 million in total compensation was among the highest reported by corporate America last year, it would have enough to pay each of its employees the princely sum of $930.

Besides, it's dangerous to assume that companies across the country would respond to such a change in California law by either lowering their CEO pay dramatically or forking over considerably more to the state general fund. The corporations paying the gargantuan sums that DeSaulnier and Hancock find offensive face global competition for their executive talent. If they can't hire the people they want to hire without triggering a huge increase in their state tax burden, why would they want to keep doing business in California? And if they can't easily cut their ties, you can safely assume they'd look at all sorts of strategies to trim their tax bill, none of which involved raising their median wage. For example, they may simply find new ways to lower their taxable income in the state.

As an analyst for the Legislature observed, "Only 60% of California corporations pay much in tax because they don't show any net income for the year, and many others are organized in such a way they'll evade SB 1372's effects.... Given its limited scope, and the skill taxpayers show minimizing corporation taxes, will SB 1372's change in rates really result in a change of behavior?"

Maybe it's safe to assume that most corporations can't afford not to do business in California, considering that we're home to 1 of every 8 Americans. But why would a manufacturer or a start-up business locate here if it couldn't pay the market rate for a CEO without vastly increasing its tax burden? And shouldn't the Legislature's goal be to encourage job creation, increasing the demand for workers, tightening the labor market and driving up wages?

Not content to tackle income inequality, the bill's authors also target outsourcing and off-shoring for tax penalties. Their proposal would increase by 50% the tax rate paid by any publicly traded company doing business in California that reduced its full-time workforce by more than 10% while increasing its use of contract workers and those in foreign countries. Companies just starting to do business in California would be hit with the tax penalty if they laid off more than 10% of their workforce and used any contract or foreign workers.

DeSaulnier and Hancock aren't the only Senate Democrats who think SB 1372 is a good idea. The Senate Committee on Government and Finance approved the bill this week by a 5-2 vote, with four Democrats joining DeSaulnier in favor and two Republicans opposed.

Lawmakers are right to be troubled by stagnating incomes for working- and middle-class Americans. And there's a good argument to be made that the economy would grow faster if corporate America plowed more of its productivity gains into higher wages, rather than using its record profits to fund stock buy-backs, gobble up other companies and, yes, devote enormous sums to executive compensation.

But California can't close the income gap by acting unilaterally in a global market. And it's hard to see how punishing corporations for paying top executives what the market demands will lead them to improve the fortunes of their lower-paid workers. And isn't that the goal here?

[For the record, April 29, 2:15 p.m.: The original version of this post erroneously reported that the tax penalties in the bill would kick in at far lower levels than the bill actually proposes. For example, it said the tax rate would go up more than 1 percentage point if the highest-paid executive's compensation amounted to 200% (i.e., double) the median worker's wage. In fact, the bill would impose that penalty when the top compensation is 200 times the median wage. Similarly, it said that the penalty would be more than 3 percentage points if the top executive compensation was 300% (i.e., triple) the median, when in the bill it's 300 times more. I'm pretty good at math, but clearly not very good at reading legislative language.]


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