Don’t Let Warren Politicize Accounting

Her ‘real profits’ tax would hijack GAAP and harm investors and corporate employees alike.

By Scott Dyreng. He is an associate professor of accounting at Duke University. Excerpts:

"Real Corporate Profits Tax—her plan to tax highly profitable companies on their financial accounting incomes"

"Ms. Warren calls for a 7% levy on financial-accounting earnings above $100 million, on top of the 21% tax corporations already pay on taxable income."

"the new tax would hurt investors by subjecting accounting standards to politics."

"If taxes become tied to GAAP earnings, financial accounting standards will inevitably be distorted. Politicians would pressure the Financial Accounting Standards Board"

"If taxes become tied to GAAP earnings, financial accounting standards will inevitably be distorted. Politicians would pressure the Financial Accounting Standards Board to adjust GAAP in a way that increases government revenue, or punishes or rewards certain corporate expenditures. In short order, financial reports would come to reflect Congress’s objectives, and investors would demand that companies release separate non-GAAP income numbers to provide the information they need to make decisions."

"Another problem would emerge when savvy companies fight back against the new tax. They would quickly develop techniques to avoid the real-profits tax by changing their accounting assumptions and staying on the inexpensive side of key thresholds over which the tax kicked in.

Consider Amazon, which Ms. Warren invoked in her proposal. In 2018 Amazon reported $11.2 billion of U.S. income, following GAAP. But following the tax code, Amazon reported no taxable income to the Internal Revenue Service. The discrepancy arose because Amazon reported an $11.4 billion expense in share-based compensation to the IRS, but not to shareholders.

Now suppose Amazon knew it would pay a 7% tax on the $11.4 billion of financial-accounting income. Jeff Bezos wouldn’t simply sit back and take it. Amazon would stop issuing share-based compensation, more than 99% of which goes to employees outside the C-suite, whom Ms. Warren supposedly wants to help.

Alternatively, Amazon could slightly modify the form of its share-based compensation to make it a GAAP expense and avoid the Warren tax. Shareholders would still see the profit, as Amazon would simply issue a non-GAAP income statement to show what its profits would have been without share-based compensation expenses. The result would be no additional taxes paid by Amazon, and an inferior income disclosure for investors."