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Wall Street Journal, June 5, 2007 article


The Wall Street Journal  

June 5, 2007


Lawmaker to Push Options-Tax Overhaul

June 5, 2007; Page A2

WASHINGTON -- A senior Senate Democrat, aiming to rein in what he calls excessive executive pay and to help increase federal revenue, wants to overhaul the corporate-tax treatment of some stock options.

Sen. Carl Levin (D., Mich.) is considering legislation that would change the tax code to align it with accounting rules that govern how options are booked on corporate balance sheets. The Permanent Subcommittee on Investigations, which Sen. Levin oversees, is holding a hearing today to discuss the difference in what companies report to shareholders and what is reported to the Internal Revenue Service. Mr. Levin's staff hasn't yet drafted a bill, but plans to do so.

When a company grants an employee stock options -- the option to buy a stock at a set price -- it treats the option as a business expense. When the employee exercises the options, sometimes years later, they have often increased in value, and the company may deduct that larger sum from taxable income. The difference in how stock options are treated is costing the Treasury Department billions of dollars a year, Mr. Levin said.

The subcommittee asked nine companies to calculate what they would have expensed for stock options from 2002-06 (even though the law didn't require options to be expensed until 2005) as well as what they took as tax deductions. Tax deductions for the companies totaled $1 billion, nearly seven times more than the expense taken on the corporate books. Mr. Levin tried in 1997 and 2003 to alter the tax code, but with Democratic control of Congress and a 2005 change in accounting rules, he could be more successful this time.

[Carl Levin]

Other lawmakers are looking for ways to raise revenue to fund various initiatives. Pay-as-you-go budget rules in the Senate and House require any spending or tax cuts to be offset with spending cuts or tax increases elsewhere. By one estimate, aligning the difference in the treatment of stock options could result in $100 billion in revenue during four years, according to one person with knowledge of the matter.

Another idea under consideration is the tax treatment of "carried interest," particularly as it pertains to the private-equity and hedge-fund managers. The managers often receive a large part of their compensation in the form of an interest in future profits, known as the carried interest, which under current law is taxed at the 15% long-term capital-gains rate instead of regular income-tax rates of as much as 35%. Changes to this structure haven't been proposed, but they would potentially raise significant amounts.

Meanwhile, amid rising concern about income inequality, Congress has taken aim at executive-pay packages, with the Senate passage earlier this year of a limit on the amount employees could place in certain tax-deferred compensation plans. The provision, which was included to fund business-tax breaks attached to an increase in the federal minimum wage, didn't survive negotiations with the House. It could resurface.

Companies "are benefiting from an outdated and overly generous stock-option tax rule that produces tax deductions that often far exceed the companies' reported expenses," Sen. Levin said. Stock options are the only form of compensation where tax deductions exceed what is expensed on corporate balance sheets. Changes to the tax code would affect nonqualified options and not change the special tax considerations given to incentive-based stock options.

Write to Kara Scannell at kara.scannell@wsj.com2 and Sarah Lueck at sarah.lueck@wsj.com3

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