CEOs' salaries are ballooning thanks to tax breaks that turn bonuses into government subsidies for corporate America

It’s no secret that US CEOs are some of the best-paid people on earth. After all, for the first time ever, the two top-paid corporate executives took home billion-dollar pay checks. What seems to be a better-kept secret, though, is that a large portion of their pay is tax deductible – which creates, effectively, a government subsidy for corporate bonuses.

It’s all thanks to a lucrative tax break that's completely legal. In 1993, when Congress capped the tax deductibility of executive pay at $1m, it allowed US corporations to deduct performance-based pay –including stock options – from their federal income taxes. The companies use the tax-deductible stock options to lower their IRS bills. That, in turn, means that those rich executive bonuses turn into government subsidies.

The total cost to the US: in the neighborhood of $7bn a year at last count, according to the Economic Policy Institute.

The fast-food industry, in particular, has racked up $64m in tax savings by giving its CEOs big bonuses.

According to recent research by the Institute for Policy Studies, “the CEOs of the top six publicly held fast-food chains pocketed more than $183m in fully deductible 'performance pay,' lowering their companies’ IRS bills by an estimated $64m” over the past two years.

Those companies included McDonald's, YUM! Brands, Wendy’s, Burger King, Domino’s and Dunkin’ Brands.

According to IPS's figures, last year the CEO of McDonald's, James Skinner, received a performance bonus of $23m, making his company eligible for a $8m tax break. Within that same year, his successor, Donald Thompson, received a performance bonus of $10m, making McDonald's eligible for a $3.5m tax break.

David Novak, the CEO of Yum! Brands, which includes Taco Bell and KFC, did even better with a $48.8m performance-based bonus, which shaved $17.1m from the company's tax bill, IPS found.

CEO tax breaks come at the cost of the US economy and minimum-wage workers, says research from the IPS. Photo: Institute for Policy Studies

Two subsidies for fast food companies?

Many of the workers at those companies live on salaries of roughly of $20,000 a year each, which in many cases qualifies them for food stamps and other government assistance. Some workers at McDonald's would have to work for 550 years to accumulate the salary and bonus the CEO makes in a single year, Bloomberg Businessweek found.

Many argue that there are two subsidies at work: tax breaks to keep CEO pay high, and a low minimum wage to keep worker costs low.

Similarly, many of these companies' employees are paid the national minimum wage of $7.25 and depend on government assistance for many of their daily needs. Increasingly, that's hitting the older population: half of those working for minimum wage are over 25 years old.

Consequently, some argue, not only is the government subsidising large chunks of executive pay for these companies, but it’s also subsidising pay for their lowest paid employees by providing them with food stamps and other forms of public assistance.

“These fast food CEOs are a double burden on taxpayers,” says Sarah Anderson, author of the IPS report. “They’re gorging on huge taxpayer-funded bonuses at the same time they’re fighting to keep low-level workers’ wages so low that many must rely on public assistance.”

"The issue of executive compensation goes beyond the companies, it affects the people, the taxpayers," Anderson said. "That's why we are trying to reframe the conversation."

The wage gap and the culture of the workplace

A large part of the conversation in recent years has been the wage gap between executives and regular workers, and the effect that large difference in compensation can have on the workplace.

There are still only a handful of companies that are mindful of the fact that increasing wage gaps within the workplace affect morale and often lead to a high turnover. For example, Anderson points to Whole Foods, where co-founder and co-CEO John Mackey has been outspoken about maintaining pay ratio between workers and executives at 1:19.

“Employees really do care about this issue, and a smaller gap makes for greater solidarity, and as a result better performance, throughout the workplace,” Mackey wrote for the Harvard Business Review earlier this year.

Twenty years ago, when we were only a fraction as large as we are today ($40m in sales then compared to $8bn now), the salary cap ratio was 8 to 1. Today it’s 19 to 1. That puts the maximum cash compensation anyone can make at Whole Foods at about $650,000."

However, the rest of the US is far from following in Mackey’s foot steps. According to the American Federation of Labor and Congress of Industrial Organizations (AFL-CIO), “The CEO of an S&P 500 Index company made, on average, 354 times the average wage of a rank-and-file US worker.” This isn’t just about retail or fast food companies. Those working the bottom-rung jobs within the banking industry aren’t faring much better.

Bank tellers on food stamps

When surveyed by the Committee for Better Banks, 25.5% of bank workers said they had their take-home pay cut, 24% said their benefits were cut and 32% said they were not always paid for overtime jobs.

Another study found that bank tellers' pay in New York is so low that 39% of bank tellers and their family members are enrolled in public assistance programs. All the while bank CEOs are still raking pay packages worth millions of dollars.

New Day New York is leading protests this week advocating for the closing of tax loopholes and a minimum wage high enough to ensure that workers would be able to support themselves and their families. Fast food workers are planning more strikes against the minimum wage this week.

Strikes and protests have done little so far to change corporate compensation practices.

Pay ratios and why they matter

The government, however, has not turned a blind eye to the growing wage gap within many of the companies.

In September, the US Securities and Exchange Committee (SEC), which has been tasked with enforcing the number of provisions contained within the Dodd-Frank Wall Street reform act, issued a proposal that would require US corporations to publicly disclose their pay ratios.

Those in support of the proposal shouldn’t get excited just yet, said Carol Bowie, head of Institutional Shareholders Services' Americas Research group. It’s likely that the proposal won’t be finalized until 2014, which would means that it would go into effect in 2015, requiring companies to publicly disclose it in their filings in 2016.

“We are a long way from seeing it on the form,” she says, adding that it’s too early to predict if it would have any effect on executive compensation going forward.

Even if the pay ratio was available now, Fabrizio Ferri, associate professor of corporate governance and executive compensation at Columbia Business School, thinks it wouldn’t make much of a difference.

Compensation levels at US corporations are fairly detailed and if investors were truly interested, they could easily find out what the pay ratio is, he says. However, “to an institutional investor, it doesn’t make a difference. It’s good for discussion, it’s good for press, but won’t make the institutional investors vote differently.”

Anderson agrees, noting that the majority of research addressing the wage gap and the dependence of minimum wage workers on government assistance has done little to affect the way shareholders vote.

“The shareholders aren’t really on our side,” she says. “They have very narrow interests.”