In his latest Left Foot Forward column, accounting expert Prem Sikka shows why it's time for a new tax on high pay.
The ‘polluter pays’ principle states that those producing negative consequences for others should bear the cost of managing or preventing damage.
The same principle also needs to be applied to the instigators of inequitable distribution of income.
Age of extremes
The 2019 report published by the Social Metrics Commission shows that the UK has extreme inequalities. Some 14.3 million people, including 8.3 million working-age adults, 4.6 million children and 1.3 million pension-age adults, live in poverty.
Inequalities in the distribution of income have harmful consequences as they affect access to education, housing, healthcare, pension, food and security. They affect life expectancy, infant mortality, mental illness and social mobility. Inequalities create alienation, social divisions and segregation as those on low pay become trapped in dilapidated neighbourhoods and face diminished opportunities for social advancement.
Meanwhile, the rich are able to erode democratic choices by funding political parties and campaigns and shifting the agenda through lobbying and the media. Yet the instigators of inequalities face no social costs. Society needs to address the imbalance by levying an inequality tax.
The national share of income of the richest 1% of households has tripled over the last four decades from 3% in the late 1970s to around 8%.
This is often highlighted by soaraway executive pay. In just three working days, the UK’s top bosses make more than a typical full-time worker will earn in the entire year. The average FTSE 100 CEO collects £1,020 per hour and £3.926 million a year and last year received an increase of 11%.
The excessive rewards are often the outcome of power rather than the performance of companies or their executives. Shareholders have shown little interest or have been unable to curb undeserved executive pay. In any case, they can’t deal with the systemic effects of inequalities and that task must fall to the state on behalf of the people.
Tipping the scales
An inequality tax should be levied on a company or a similar organisation for inflicting harms emanating from inequitable distribution of income.
All wages, salaries and benefits paid by employing organisations are currently treated as a tax deductible expense i.e. they reduce the taxable profit and tax liability of a company. Currently, companies are rewarded for excessive executive pay because that reduces its liability to corporation tax.
An inequality tax would place an upper limit on the amount of executive remuneration (salary, benefits, pension contributions, bonuses) that a company can deduct from its taxable profits.
The cap could be a multiple of the national median pay, the national minimum wage or even a straight sum which could be say £1 million per executive. This principle can also be applied to the remuneration of any employee.
It is worth emphasising that the proposal does not place a cap on the ability of a company to pay large amounts to an employee/executive. It merely restricts the tax deductibility of excessive pay.
In 2017/2018, the CEO of Bet365 received remuneration of £265m and all of it was tax deductible. Under the proposals outlined above, only £1 million may be allowed as an expense in the company’s corporation tax liability calculation i.e. £264m would not be treated as a tax deductible expense.
The net result of this would be to increase the company’s taxable profits. At the prevailing rate of corporate tax rate of 19%, the company would be required to pay an additional tax of £50.2m (£264m x 19%) to compensate society for the negative consequences imposed upon it. Those revenues can be used for redistribution. Companies can avoid the additional levy by embracing a more equitable distribution of income.
Lessons from US laws
The idea of an inequality tax is not new. In 1993, in response to public outcry over excessive executive pay, US President Bill Clinton introduced legislation to limit the tax deductibility of top five executives’ salary at listed companies to $1 million each.
However, the $1 million cap did not apply to stock options, bonuses and benefits. Inevitably, executives exploited the loopholes and constructed pay packets in the form of stock options, shares and other forms of bonuses to ensure that the entire remuneration package remained tax deductible.
US legislators have now tabled the Stop Subsidizing Multimillion Dollar Corporate Bonuses Act which would extend the $1 million deductibility cap to all forms of remuneration for all employees. It remains to be seen whether the legislation would be passed.
It should be noted that the reform proposed for the UK refers to “total remuneration”. If enacted it will not dissolve the contradictions of capitalism. But it would be a major step towards ensuring that those fuelling inequalities and inflicting negative consequences on others bear some of the social costs.
Prem Sikka is Professor of Accounting at University of Sheffield and Emeritus Professor of Accounting at University of Essex. He tweets here.