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The Incredible, Magically Metamorphosing Taxpayer-Subsidized Executive Perk

Once upon a time, the story goes, corporate America was fat and happy. Top executives worked in palatial office suites bedecked with flowers, flew everywhere in private jets, and ate every meal at the Four Seasons or Le Bernardin.

Then there was the shareholder value revolution. Michael Jensen and the rest of the Chicago School efficient-market legions showed that shareholder value was the only thing that mattered and stock prices were the only measure of shareholder value. Activist investors demanded an end to executive perks and ushered in the era of pay for performance, in which executives are paid in stock options, so they only make (a lot of) money if shareholders make money. Congress event went along by capping the tax-deductible amount of executives’ base pay, which helped along the shift to stock-based compensation.

We know how one side of this deal has turned out. Executives are paid largely in stock, which has produced a vast increase in total compensation. But pliant boards and captured compensation consultants have figured out all sorts of ways to ensure huge paydays regardless of performance, some illegal (backdated stock options) and others legal (simply repricing options when the stock falls).

What about the other side? Are executive perks—paid for by shareholders, remember—a thing of the past?

Apparently not. It turns out that having the company pay for the private jet—even the private house, in some cases—is too tempting for CEOs to lay off. Not only that, as Steven Davidoff writes, CEOs have figured out a way to get taxpayers to subsidize their royal lifestyles. Ordinarily, if a company pays for an executive’s personal travel on a corporate or other private jet (just like any other personal travel), the value of that travel is counted as income for tax purposes. But:

“If an outside security consultant determines that executives need a private jet and other services for their safety, the Internal Revenue Service cuts corporate chieftains a break. In such cases, the chief executive will pay a reduced tax bill or sometimes no tax at all.

“Even when tax is due, the company sometimes takes care of it.”

Now, I understand that sometimes it makes sense for executives to fly on corporate or chartered jets for business. That’s a tax-deductible business expense. No problem there.

If a company wants to go out of its way to let the CEO take the corporate jet on vacation, that’s income, pure and simple. It might be justified on the grounds that if the company didn’t pay for the jet, then the CEO would demand more compensation in other forms. That’s just a classic corporate governance question.

But in this case, it’s highly likely that the company is paying for the jet because of the tax break. Think about it. If you’re the CEO, which would you rather have, use of the jet or cash? Rationally speaking, you should prefer the cash, since you could (a) fly first-class commercial and pocket the difference or (b) fly NetJets and pocket the difference. This is a case where the executive perk exists because of the arbitrage opportunity created by the tax code: companies have found a way to get taxpayers to pick up part of the tab for their executives’ lifestyles.

This tax season, this seems to me something that all of us could get mad about.

This post originally appeared at The Baseline Scenario and is posted with permission.

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Otaviano Canuto

Otaviano Canuto is Senior Advisor on BRICS Economies in the Development Economics Department, World Bank, a new position established by President Kim to bring a fresh research focus to this increasingly critical area. He also has an extensive academic background, serving as Professor of Economics at the University of Sao Paulo and University of Campinas (UNICAMP) in Brazil.

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