Taxing AIG Bonuses: Worse Than Paying Them.

By :: March 19th, 2009

The AIG bonuses are an outrage. But the bigger scandal is that a grandstanding Congress wants to use the tax law to punish the companies that paid them and the employees that got them.

If Congress wants to limit bonuses for employees of bailed-out companies, it should just do it. But using the Internal Revenue Code is a truly terrible idea. And dipping into the Code to win political points is worse. Long ago, people were rightly outraged when Richard Nixon tried to turn the IRS into a weapon to punish his enemies. This gotcha tax is another variation on the theme, and nearly as inexcusable. Imagine, for instance, if a GOP Congress retroactively barred people from deducting charitable gifts to Planned Parenthood. Or Democrats imposed a 50 percent surtax on companies that that do security work in Iraq.

This faux-populist mob isn’t being led by a bunch of back-benchers. The House today overwhelmingly passed a 90 percent tax on some of these bonuses. Senate Finance Committee Chairman Max Baucus (D-Mont) and ranking Republican Chuck Grassley (R-Iowa) would impose a 70 percent excise tax (35 percent on the company and 35 percent on the employee) on many bonuses paid by firms receiving TARP money. I’m inclined to believe they have done this to release some of the issue’s political steam before the kettle explodes, but nonetheless, it's still dreadful legislation.

The purpose of the tax code is to raise revenue. Like it or not, the Code is also used to discourage or subsidize certain economic activity. But it is not on the books to enforce laws by denying someone a tax benefit. And, as my TPC colleague Eric Toder notes, the Revenue Code should not be used to effectively abrogate private contracts. That’s why we have courts.

This proposed new tax is even more troublesome because it is retroactive. Companies have already paid these bonuses. Taxing them now serves no purpose other than punishment.

In the past, Congress has shuttered egregious tax shelters by announcing its intention to bar the activity. This sort of “government by press release,” where Congress blocks a practice long before it actually changes the law, is troublesome enough. But the AIG business is much worse. Congress is not telling the company that future bonuses will be subject to a surtax. It is hammering bonuses that already have been paid.

Washington has occasionally stumbled down the road of punitive taxation before, but usually thought better of it before doing any real damage. Eric remembers that the Clinton Administration briefly considered denying the mortgage interest deduction to deadbeat dads who fell behind on their child support. Fortunately, Treasury officials quietly buried that idea.

Not only is it awful policy, but the bonus tax is an enormous distraction. With the capital markets still a mess, and the Obama budget facing a severe backlash, the Finance Committee is wasting days on bonuses being paid to 418 people.

About now you may be saying, “But this is different. The taxpayers own AIG. We ought to have some say in how this company is run.” Maybe, but do we really want Congress to micromanage the business practices of this firm? That's the quickest way I know to drive the value of the company’s remaining assets to zero and guarantee taxpayers will get no return on their investment. If the Administration thinks Ed Liddy is doing a lousy job running AIG, it ought to fire him and bring in somebody else. But Congress shouldn’t use the tax law to punish people for decisions they made a year ago. 

 

6Comments

  1. Anonymous  ::  2:08 am on March 20th, 2009:

    First of all, I work at one of the banks that received the TARP bailout. I made $125K base and $80K bonus, working 60-80 hour weeks. However, my wife's salary put us over the limit of $250K. If this bill goes through I will demand that she quit her job as a school teacher since it is simply not worth it any more. Better yet, maybe we'll “get divorced” so as to avoid this taxation fiasco. Targeting the hard-working ranks of these firms that make $250K or more is destroying morale. We must not forget that the people ultimately responsible for what has happened to these banks is numbered in the hundreds, and most of them have left these firms already. Now the political charades going on in Washington will have a profound effect on thousands of employees who are keeping our financial system working. Most likely the bonus money received has already been committed to bills, etc., so to ask for it back retroactively in a tax bill is NOT policy; it is “vote-getting” by under-qualified political characters in Washington. The grass-roots people who are complaining about the bonuses are the same buffoons who took out mortgages they couldn't afford. Let's remember one thing, nobody forced “Joe the Plumber” to get a piggy-back, interest-only ARM so he could buy a mansion and drive a gas-guzzling SUV. I did not buy a home because I was saving for a 20% down payment and knew what I could not afford. One last thing, which is very dangerous to our financial system; after the bill was passed today, everyone left the office and NOT ONE manager objected! If the politicians want to micro-manage the banks then I will come in late and leave early every day. Then let's see what happens systemically when everyone else does the same!!!

  2. Anonymous  ::  2:17 am on March 20th, 2009:

    By the way, are these politicians lazy or just plain stupid. Why are they setting the limit at $250K across the whole nation. They must realize that the cost of living is different in the Northeast than the Mid-West. This threshold should be adjusted by the regional inflation numbers, housing affordability, overall nominal cost of living, something that equalizes it so as not to penalize where one chooses to live. Most politicans cry when the idea of a flat %15 tax rate is proposed. Then why do they accept a flat salary threshold. NOT FAIR!!!

  3. Anonymous  ::  1:48 pm on March 20th, 2009:

    I agree this is likely a distraction. It would be preferable to ask Interpol to arrest the “geniuses” who put AIG in this mess and extradite them – although it is unclear if any crimes were committed. If they were, that is the tack to take. If the whole operation was fraudulent and systematic, then it should be prosecuted under RICO (from the broker level to the CDW level), with the requirement that fees be returned at triple damages – with attendant asset seizures. The funds so collected should be applied to the balances of those victimized by mortgage brokers if they were manipulated to move loans.
    As to the bill at hand, it is almost a Bill of Attainder – but not quite. It is also almost an ex post facto law – but not quite, since this provision only applies to criminal law – not the tax code.
    If taxes on the wealthy need to go up, and they do, then they should across the board – not just for those who work at a bailed out institution.

  4. Anonymous  ::  11:15 pm on March 20th, 2009:

    I’m an IT engineer with $130K annual salary while working for a California bank for the past 8 years. Last November, our company is put into FDIC receivership and sold to a TARP recipient bank on the same day. The new bank will lay off most people in my department, but agree to pay those laid off a retention bonus based on our years of service and retention date (laid off date). In my case, I’m getting 6 months of pay as retention payment, and an addition $40K to stay through July to convert our IT application and data to the new bank.
    This bill will take most of this money away since my wife's salary coupled with the severance will put us over $250K. But we are not rich executives who run the company into ground or the one decide to accept federal assistance. To us, this money is like a severance payment that will get us through the tough times once we get laid off.
    The irony is my tax money is used for a TARP bank to take over and eliminate my job. Then in the name of protecting taxpayers, Congress will tax away my severance.

  5. Anonymous  ::  4:12 pm on March 25th, 2009:

    Lucky for you the bill is dying.
    They probably needed to make the floor one million dollars, or graduated the rate from 40% to 90% as income goes higher.

  6. Anonymous  ::  4:14 pm on March 25th, 2009:

    Lucky for you the bill is dying.
    They probably needed to make the floor one million dollars, or graduated the rate from 40% to 90% as income goes higher.
    You got kids? Take the opportunity of unemployment in a bad economy to spend time with them (or have some – it is good for the tax bill and lasts longer than the job).