Does Tax Matter? Evidence on Executive Compensation after 162(M)'s Repeal

As part of the most sweeping federal tax reform in a generation, the Tax Cuts and Jobs Act (“TCJA”) radically altered the tax treatment of compensation paid to senior executives of public companies. Prior to the TCJA, payment of such compensation in excess of one million dollars was non-deductible except to the extent the compensation was performance-based. The TCJA eliminated the exception so that all senior executive compensation above one million dollars is now non-deductible regardless of whether it is performance-based or not.This reform provides a natural experiment to study the role of tax law in influencing managerial pay decisions, an issue that has been debated for decades by scholars and policymakers. Did the elimination of the performance-based pay exception influence senior executive compensation decisions? Using a novel empirical design, we find no evidence that the repeal of the performance-based pay exception changed the most significant and salient compensation features, namely the proportion of performance-based pay to total pay and the overall amount of pay. On the other hand, when we move from headline compensation features to smaller technical ones, our data suggests that the tax change has had a significant influence. This suggests that tax rules may be only consequential in shaping executive compensation when no one else is paying attention otherwise