The Incredible Lengths One Company Will Go To So Its Top Employees Don’t Have To Pay Taxes
Medical device giant Medtronic is close to finishing a deal to move its tax headquarters to Ireland and boost its stock price. But while shareholders face taxes on those gains, the company is shelling out more than $60 million to make sure its CEO and 25 other top officials won’t pay taxes on their windfall.
A shareholder is suing to stop Medtronic from making those so-called “gross-up” payments and force the 26 people at the top to pay the taxes themselves at a far lower total cost.
Medtronic has long planned an “inversion” merger with Ireland-based Covidien, a technical term for an increasingly common corporate practice of setting up an official headquarters in a tax haven country to reduce tax costs in America. Because CEO Omar Ishrak and others in the executive suit hold stock options rather than actual stock, they do not have to pay capital gains as a result of the inversion.
Shareholders are not so lucky and will pay a 15 percent tax on their own gains. A 2004 law is supposed to close that gap in tax treatment between executives and shareholders to make sure that the Ishraks of the world operate in their investors’ best interests rather than their own.
But Medtronic is sidestepping that law by paying the 26 top officers a combined $63 million, $25 million of which is for Ishrak’s share alone. Using corporate dollars to cover executives’ taxes is called a “gross-up” payment and it has become more and more common since the late 1980s.
Ishrak has made over $46 million in the past three years, according to data from Morningstar.
If Medtronic were not shelling out to shield him from these taxes, he would have had to pay roughly $9.2 million. That means the inversion will bring Ishrak a windfall of more than $14 million according to Medtronic’s accounting.
That math is based upon figures from a Tax Analysts piece on Medtronic’s gross-up payments and the tax code provision that gave rise to them. The authors note that Medtronic’s move is a common one for inverting companies. The pharmaceutical company Abbvie also plans to shield top officials from the tax costs of its own move to Ireland.
The experts also write that Congress could render the tactic useless by raising the tax rate on executives’ gains from mergers. The 2004 law that created the excise tax was meant to ensure that executives’ personal interests were aligned with shareholders’ interests when it comes to merger decisions, but in order for that to work the rate would need to be so high that gross-ups become mathematically impossible.
Shareholder Marilyn Clark of California is hoping a judge will step in to stop the company from covering Ishrak’s taxes from the deal. Her suit calls the payments “wholly self-serving, counter to public policy, and harmful to Medtronic shareholders,” according to the Star Tribune.
A company spokesman justified the payments to the paper by saying they will help Ishrak and the others “focus on the welfare of the company, not their personal finances.”
Medtronic’s merger is just one of many this year that will move a major American company abroad for tax purposes while leaving its actual physical business operations where they are. Such inversions have drawn fire from such diverse sources as billionaire investor Mark Cuban, the White House, and, in Burger King’s case, angry customers.
Corporate tax avoidance of this sort is legal under international tax law. Though European officials are beginning to crack down on tax haven countries that allegedly made special deals with companies like Apple and Fiat, the broader reality of the corporate tax system means that incentives to duck taxes remain strong. American companies currently have about $2 trillion in profits parked offshore.
Like Medtronic’s “gross-up” payments, inversions themselves are often harmful to shareholders. Just as many inverted companies have underperformed the overall stock market as have outperformed over the past three decades, according to Reuters.