Some say that the definition of insanity is doing the same thing repeatedly and expecting different results. In Executive Compensation and Corporate Governance, Michael Doran illustrates Congress’s tendency to meet this definition, especially in policy areas that implicate big business. Doran starts from the observation that, while significant empirical uncertainty exists as to whether lavish executive compensation reveals a breakdown of corporate governance, Congress’s extensive deployments of tax policy to curtail executive pay generally have fared poorly. Indeed, Doran argues that these legislative efforts, which span four decades, may have harmed shareholders and workers—the precise constituencies that Congress intended to protect.
Doran traces the causes and effects of three provisions over time: the golden parachute penalty taxes in § 280G and § 4999, the nonqualified deferred compensation rules in § 209A, and the denial of deductions for excessive executive compensation in § 162(m). In each case, Doran finds failure, and rightly so. If burgeoning executive pay packages exacerbate inefficiencies or inequality, the stakes may be significant. These failures, however, demonstrate legislative action rather than gridlock, and appear less venal than simply inept or misguided. Those features count for something in our current political age, and one might legitimately see opportunities for positive action in the bleak landscape that Doran surveys.
In a more concrete sense, Doran describes a series of policy levers that Congress has developed over time. These levers may not work as intended, in that they don’t appear to do much about the aggregate magnitude of executive pay. But these levers do have interesting effects that might appeal to policymakers, if those policymakers weren’t so focused on curtailing top-end remuneration. For example, the 1993 version of § 162(m) appears to have motivated a genuine shift from cash payments to equity-based (though not necessarily performance-based) compensation in the pay packages of covered employees, and this shift may be sticky after the 2017 repeal of the performance-based exception. Similarly, Doran highlights how the rules regarding excess parachute payments shaped the terms of those arrangements and (perhaps) encouraged their adoption across more companies. Implicit is a sort of standardization in managerial compensation arrangements, though not, of course, the standardization desired by Congress. The tax system may not allow Congress to accomplish what it wants with respect to executive pay, but the policy tools currently in place may serve other ends—though those ends require elaboration and rationalization.
Along similar lines, Doran emphasizes that Congress’s ineffective executive compensation limitations often function as simple penalties, rather than as Pigouvian price instruments. The targeted behavior—large payouts to executives—remains constant, while the penalty falls on parties other than the directors and executives most connected to compensation decisions. As a result, these provisions decouple tax liabilities from any reasonable measure of net economic income. To the extent that executive compensation is truly excessive, however, the cost of that compensation presumably does not relate to the production of income—and perhaps should not be deductible as an initial matter under an ideal income tax. Consider seven-figure salaries paid by family businesses to ne’er-do-well progeny, which may be characterized as nondeductible distributions of earnings and profits. Through this lens, numeric constraints on deductible compensation may represent an administrative compromise in the calculation of the real costs of running a business. Furthermore, this issue implicates some of the empirical uncertainties that Doran cabins early on in his article: does the “managerial-power” theory or “optimal-contracting” theory of executive compensation better explain observed compensation structures? Although observers should feel dissatisfaction and disappointment in Congress’s efforts to address executive compensation through the tax system, reform seems to require more than simply excising these efforts from the Code.
A final perspective on Congress’s Sisyphean attempts to curtail executive pay might incorporate insights that Doran developed in the context of corporate tax integration. The various interests in setting executive compensation—managers, shareholders, legislators—are heterogenous. Similarly, a variety of instruments could address executive compensation, such as penalty tax rates, disallowed deductions, and timing controls. Each of these instruments may affect different interests differently, creating highly contingent coalitions for any given proposal. From this perspective, it’s kind of remarkable that Congress has taken any action at all, and it’s also unsurprising that no grand theory—no comprehensive legislative program—has emerged with respect to the presumptive problems with executive compensation.
Overall, Doran’s article is a compelling addition to his extensive work on executive compensation in the tax context. Doran ably highlights the problems with a tax-oriented approach to problems of corporate governance, and his work should assist legislators and policymakers, as well as other scholars, in charting a future path for reform in this area.