When Twitter goes public on Thursday morning, its executives will start to find out how much the stock options they’ve received as compensation are really worth — and how much taxpayers stand to lose.
As technology companies like Twitter and Facebook seek to turn ideas into profits by going public and selling stock, they are also exploiting taxpayer subsidies for executive pay to avoid paying any taxes on billions of dollars of earnings. A dozen tech firms have stashed enough stock option tax credits to eliminate their entire income tax liability on the next $11.4 billion they earn, according to a new report from Citizens for Tax Justice (CTJ). That will mean the government misses out on $4 billion in tax revenue.
Of the 12 companies in the CTJ report, Facebook is by far the largest exploiter of the way tax law treats stock option compensation, banking $6.2 billion in tax credits for future use. Stock option compensation isn’t cash like the typical worker’s paycheck, but rather a contractual right to buy shares at a low price in the future. Where a typical worker is paying income taxes on her wages, people who are paid in stock options don’t have that income taxed until they cash in the options, and their company gets to write the options off on their taxes. Salesforce.com, Priceline, and WebMD each have over $800 million in such credits socked away:
The ability to pay in stock options rather than in cash is vital to companies like these that have created a widely-used service and are trying to find ways to charge for it. Because their revenue streams are weak or uncertain early on, their only way to retain staff and talent is to give people a stake in the company’s future value through stock options. Unlike stock itself, a stock option provides the right to buy shares at a below-market price in the future. The company is therefore losing money when employees exercise that option to buy low, which is why tax law allows companies to write down that on-paper loss.
But treating that on-paper loss as a business expense that can be written off to the taxman is a misapplication of the logic of business tax breaks, according to CTJ. “[U]nlike the wages earned by most employees, the stock options granted to executives don’t result in a dollar-for-dollar cash outlay by corporations,” the report notes. These companies are getting credit at tax time for a phantom expenditure, and “allowing companies to deduct ‘expenses’ they never actually paid” is costing the government billions. The report notes that Sen. Carl Levin (D-MI) has introduced legislation that would curtail the stock option tax break but stop short of repealing it.
The tech companies that are poised to exploit the stock option tax loophole are actually small compared to the total losses to the government from this behavior. Previous CTJ work showed that Fortune 500 companies avoided $27.3 billion in taxes from 2010 to 2012 alone.
The government loses $300 billion each year to tax trickery by corporations and individuals. While Congress and the Internal Revenue Service have begun to crack down on individual tax dodgers by winning the cooperation of countries like the Cayman Islands and Switzerland, the government has found less traction to date on corporate taxes. The international approach to corporate tax law facilitates tax avoidance, and it will likely continue to do so until policymakers around the world shift away from the race-to-the-bottom mentality that creates tax havens and instead adopt a new approach to the problem.