One of the less-heralded but nonetheless important features of the Democrats’ just-passed Inflation Reduction Act (IRA) on its way for President Biden’s signature is the tax on stock buybacks.
Five years after the official end of the Great Recession, corporate profits are high, and the stock market is booming. Yet most Americans are not sharing in the recovery. While the top 0.1% of income recipients—which include most of the highest-ranking corporate executives—reap almost all the income gains, good jobs keep disappearing, and new employment opportunities tend to be insecure and underpaid. Corporate profitability is not translating into widespread economic prosperity.
The allocation of corporate profits to stock buybacks deserves much of the blame. Consider the 449 companies in the S&P 500 index that were publicly listed from 2003 through 2012. During that period those companies used 54% of their earnings—a total of $2.4 trillion—to buy back their own stock, almost all through purchases on the open market. Dividends absorbed an additional 37% of their earnings. That left very little for investments in productive capabilities or higher incomes for employees.
The buyback wave has gotten so big, in fact, that even shareholders—the presumed beneficiaries of all this corporate largesse—are getting worried. “It concerns us that, in the wake of the financial crisis, many companies have shied away from investing in the future growth of their companies,” Laurence Fink, the chairman and CEO of BlackRock, the world’s largest asset manager, wrote in an open letter to corporate America in March. “Too many companies have cut capital expenditure and even increased debt to boost dividends and increase share buybacks.”
Why are such massive resources being devoted to stock repurchases? Corporate executives give several reasons, which I will discuss later. But none of them has close to the explanatory power of this simple truth: Stock-based instruments make up the majority of their pay, and in the short term buybacks drive up stock prices. In 2012 the 500 highest-paid executives named in proxy statements of U.S. public companies received, on average, $30.3 million each; 42% of their compensation came from stock options and 41% from stock awards. By increasing the demand for a company’s shares, open-market buybacks automatically lift its stock price, even if only temporarily, and can enable the company to hit quarterly earnings per share (EPS) targets.
As a result, the very people we rely on to make investments in the productive capabilities that will increase our shared prosperity are instead devoting most of their companies’ profits to uses that will increase their own prosperity—with unsurprising results.
So two of the key takeaways here are that corporate leaders could buy back company stocks, which has the dual purposes of shielding corporate profits from the IRS — “hey, we only had X amounts of profits this year because we used so much cash on stock buybacks.” All while simultaneously increasing their own pay because they are paid in stock and buybacks artificially increase their company’s stock price. (While actually doing nothing to make the company, its products, or its lower-level employees any better off.)
It’s gotten so much worse since that 2014 article was written
Fast forward to last week and the passage of the IRA.
Stock buybacks hit a record $882 billion last year, and they may reach $1 trillion this year. The biggest corporations spend the most on buybacks. Thus Apple lavished $91 billion over the previous four quarters, according to The Wall Street Journal; Alphabet (Google), $55 billion; Meta (Facebook), $53 billion; Microsoft, $33 billion; and Bank of America, $21 billion.
But even with corporate profits at record highs, earnings can no longer meet the voracious demand for buybacks. So a growing proportion of buybacks—one recent estimate put it as high as 56 percent— are now “leveraged buybacks” paid for with corporate debt. Corporations are going into hock so they can shower more cash on shareholders and their top executives.
The proposed excise tax on buybacks is only 1 percent, so its initial effect on this drunken binge will be minimal. Indeed, in the short term it will likely create an uptick in buybacks as some corporations accelerate buybacks to avoid the tax’s implementation in 2023. The initial proposal by Democratic Senators Sherrod Brown of Ohio and Ron Wyden of Oregon—Brown is the Banking Committee chairman, while Wyden leads the Finance Committee—was for a 2 percent tax on buybacks, which would have been better. Five or 10 percent would be better still.
In coming years, it can and probably will be increased. But the excise tax’s creation establishes a beachhead. In coming years, it can and probably will be increased. In the meantime, it isn’t a bad revenue-raiser. According to Senate Majority Leader Chuck Schumer, this itty-bitty 1 percent tax will raise $74 billion over the next decade. If the outlook for the stock market improves, it will raise more. And if the excise tax is increased in the coming years, it will raise even more than that. So please join me in welcoming this new provision to the tax code. Its debut is long overdue.
Another reason we have to back campaigns such as the 50+2 effort trying to increase the U.S. Senate majority from 50 to 52 so as to counter the influence of Democratic Sens. Manchin and Sinema, who both blocked Wall Steet reforms in the IRA that would be true game-changers for reigning in the excesses of corporate America — and slowing down climate change.