A city takes on CEO pay it considers “disproportionate” — will others follow suit?

by Cydney Posner

The NYT reports on an effort by one city to address income inequality by imposing a surtax on companies that pay their CEOs more than 100 times the median pay of their rank-and-file workers. According to the article, on December 7, the City Council of Portland, Oregon adopted a measure that would add a 10% surcharge to the city’s existing business tax for each company that exceeds a 100-to-1 pay ratio and a 25% surcharge if the pay ratio exceeds 250 to 1.  The surtax is reputed to be the first of its kind to be approved, but could it be a harbinger of approaches that cities or states might apply to public companies in the future, particularly in the face of action or inaction by the incoming administration in D.C.? (See, e.g., this opinion piece from the NYT,  States’ Rights for the Left.)

The tax is reportedly designed to piggyback on the pay-ratio data that most public companies will be required, under Dodd-Frank and new SEC rules, to disclose starting in 2018. (See this Cooley Alert.) The analysis of the surtax prepared by the Portland Office of Management and Finance indicates that administration of the tax would require verifying reported pay-ratio information with the SEC.  However, as discussed in this PubCo post, one of the provisions of the Financial CHOICE Act, a version of which is expected to be re-introduced in the next Congress, would repeal the pay-ratio disclosure requirement altogether. In that event, it’s unclear what data the city could use to determine the surtax or whether a repeal could be fatal to the surtax.

The city’s analysis indicates that there are least 545 publicly traded companies paying the Portland business license tax that would be subject to the surtax, of which 160 are Fortune 500 companies.  (Note that the business license tax does not relate to “permits,” but rather is based on net income generated from business activity within the City of Portland.)  Collectively, these companies’ Portland tax liability was about $18 million (based on tax filings for 2013 and 2014). The analysis projects that annual surtax revenues would be between $2.5 million and $3.5 million, of which 88% was expected to come from the top 10% of taxpayers, and 96% from the top 20% of the taxpayers. The NYT reports that the revenues from the surtax would go into the “city’s general fund, which pays for basic public services such as housing and police and firefighter salaries.”

Although the amounts to be collected under the surtax are expected to be relatively small, the proponents hope that the underlying message will still be compelling. Oregonlive.com reports that the Portland City Commissioner who was the main proponent of the surtax hoped “the tax might discourage companies — well beyond Portland — from paying disproportionate salaries to their CEOs.” The NYT reports that “[s]everal state legislatures have recently considered bills structured to reward companies with narrower pay gaps between chief executives and workers. In 2014, a bill in California proposed reducing taxes for companies whose executives were paid less than 100 times above the median worker.” The bill did not pass when, according to The Guardian, it failed to reach the supermajority needed to make changes to the state tax code. The Guardian also reports that the surtax proponent was “inspired” by the California measure, as well as by reading French economist Thomas Piketty’s book Capital. A former lead economist at the World Bank commented that “‘it seems [to be] the first tax that targets inequality as such.’”

Objections to the surtax were raised in testimony before the City Council by the Portland Business Alliance, “based on the lack of nexus between CEO pay and a company’s sales in Portland, inequities within the rule and the inability of this proposal to impact the stated goal of addressing income inequality.”  For example, a representative told Oregonlive.com that the pay-ratio rule is a problematic resource on which to base the surtax because it “is designed to give companies flexibility in how they calculate their compensation ratio and therefore won’t provide the best data.”

The new surtax comes as the reported disparity in pay between the CEO and the workforce in general has increasingly attracted public scrutiny.  For example, the AFL-CIO reported that, last year, the average S&P 500 CEO made 335 times the pay of the average worker (which represented a dip from a multiple of 373 in 2014), based on U.S. government reports. (See this PubCo post.) Similarly, according to a recent study  from the Economic Policy Institute, for the largest U.S. public companies, CEO pay in 2014 was 303 times an average worker’s pay, compared to just 20 times in 1965. (See this PubCo post.) And an analysis by Glassdoor showed some rather striking ratios for several companies in the S&P 500 at over 1000:1, with one company at almost 2000:1. However, much lower ratios were reported in a  CEO Pay Ratio Survey conducted by compensation consulting firm Mercer. The spot survey, which was conducted in August, consisted of 117 companies across 12 industries, with average revenues of $12 billion. The survey found that the pay ratio was less than 200:1 for “the majority of respondents that have estimated a ratio,” with only 20% estimating ratios of more than 400:1.  And an earlier Mercer study  of 81 tech companies showed, for 2015, an even lower pay ratio: 95:1 at the 50th percentile.  (See this PubCo post.)

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