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Can Wall Street bonuses and pay be defended?

Wall Street bonuses are shelled out at the end of every year which gets the public’s feathers ruffled nearly every year, but one program explains why although bankers get paid too much, the structure can be defended.

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Wall street bonuses and pay structure

As the American economic crash is blamed on Wall Street and it has become popular to bash the one percent, many speculate that cutting the massive annual bonuses or altering the pay structure of the fat cats on Wall Street would go a long way toward fixing the economy, but One Minute MBA offers an alternative view.

Some of the points may be debatable, but analyzing Wall Street bonuses from a bird’s eye view has some, including One Minute MBA considering whether or not slashing bonuses has any benefit outside of catharsis.

Read also: Estimize – first open platform for financial estimates

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“In Defense of Wall Street Bonuses” video transcript:

Now is the time of year when Wall Street banks pay their employees and executives their annual year-end bonuses and the rest of America freaks out about how outrageously big they are.

I’ve covered several bonus cycles now and I’ve come to realize that no amount of justification or hand-wringing on the part of executives can put an average Wall Street bonus within the realm of normal-person acceptability. And I agree that Wall Street workers are, by and large, overpaid.

But I’ve also come around to the idea that if you have to overpay Wall Street workers, year-end bonuses might be a good mechanism for doing it. Big bonuses smooth out the cyclical ups and downs of banks and stabilize local labor markets, and they may even help the greater economy.

Let me explain what I mean.

In most jobs, a cash bonus is a perk. You might get one if you bring in a lot of new business or if your company does exceptionally well that year. (Say, if you work at a book publisher whose soft-fetish novels sell millions of copies.) But on Wall Street, “bonus” is really a misnomer. Year-end bonuses are built into the normal compensation process, and many are as big as, if not bigger than, base salaries. A VP at a bank might make $200,000 as a salary but get another $200,000 as a bonus (of which $100,000 might be in cash and $100,000 in deferred stock) the following January.

Paying very big bonuses and less-big salaries does two good things for banks. First, it keeps them from having to predict the future. Instead of having to budget X dollars for all employee pay in 2013, they can look back at the end of 2013, figure out where their revenue figures stand, and set their pay levels accordingly. Management loves this since it limits the risk of over- or underpaying people relative to the overall profitability of the bank. (Incidentally, individual bankers hate this because it puts a big question mark in their yearly earnings and makes planning their personal finances much more difficult.)

Second, paying big bonuses gives banks an easy way to cut a lot of costs very quickly when they need to. If they have a bad year, it’s easier for banks to eliminate variable costs than fixed costs. And in very bad years, cutting bonuses instead of salaries can mean needing to lay off fewer employees.

Banks are running out of room to cut bonuses. A widely ignored fact is that after the financial crisis, many Wall Street firms didn’t cut employees’ overall pay by much. They just shrank the cash portion of bonuses and paid more in salaries to compensate for the missing money. The bank VP who used to get 50 percent of his yearly pay in January was now getting a 75-25 split.

A JPMorgan research note from earlier this year shows this shift in action. JPMorgan’s analysts, led by Kian Abouhossein, crunched the numbers for Swiss banks (which have more of their compensation data available than American banks) and found that at one bank, Credit Suisse, fixed compensation costs (salaries and benefits) as a percentage of total “personnel expenses” rose from 66 percent to 86 percent between 2009 and 2011, while variable compensation expenses (bonuses) declined from 34 percent to 14 percent.

Making that switch — from a lot of variable pay to a lot of fixed pay — meant that banks gave up a lot of their flexibility and might (might!) have led to them laying off more employees than they otherwise would have. JPMorgan’s analysts wrote about this risk stating:

Increased regulation of employee bonus compensation has triggered increasing salaries and led to a higher proportion of deferred compensation levels, leading to a concerning highly fixed cost base for a volatile revenue business … We think going forward further adjustments in cost base might have to be driven by reduction of more senior IB staff in order to reduce the fixed cost base.

Now, maybe you think more Wall Street bankers should be laid off. That’s fine. But realize that in New York, at least, banker layoffs affect other industries as well. State Comptroller Thomas DiNapoli estimates that for every financial service job lost in New York City, two more jobs are lost in nonfinancial jobs in the city, and 1.3 jobs are lost elsewhere in the state. Taxi drivers, restaurant workers, real-estate agents — all of these people are included in that multiplier effect and are less able to get back on their feet after a job loss then laid-off Wall Streeters. (You could also argue that, psychologically, getting a big, year-end lump sum makes bankers more likely to put that money back into the economy immediately — by buying cars and houses and other expensive things — than if they got that money spread over the course of the year.)

Other than simple outrage at how much money bankers make, there are a few main objections to big Wall Street bonuses. The first is that they encourage reckless behavior by incentivizing traders to swing for the fences in an effort to juice their own pay.

But I don’t quite buy that lowering bonuses as a fraction of total pay solves this problem, since even in an all-salary system, traders would still try to boost their profits for personal gain. (They just wouldn’t see the effects until the following year’s salary hike.) In fact, theoretically, a bonus-based compensation system should actually reduce the risk of bad behavior, as bonuses — unlike salaries — can be clawed back in the event that something goes horribly wrong.

The other objection to Wall Street’s big-bonus culture is that, since banks helped wreck the economy and had to be bailed out, paying big bonuses is tantamount to rewarding failure.

Again, I generally think bankers get paid too much, and I think Ken Feinberg was right to try to cap bonuses during the bailouts, as some of what was in those bonus pools was taxpayer money. But now that TARP has been repaid, the government no longer has a say in how much banks pay their employees. So unless banks voluntarily adopt some sort of standardized, government-style pay-scale system — which they won’t — you’re not likely to see overall pay change that much relative to bank profits. More likely is that banks will pay a greater portion of bonuses in restricted stock, and less in cash, in order to kick some of their costs a few years down the road. (Morgan Stanley did this last year, when it capped cash bonuses at $125,000, but still made lots of deferred stock grants.)

This January is expected to be another horrible bonus year — “the worst bonus season since the crash of 2008,” according to the Post. That’s good if you’re opposed to big bonuses on principle and don’t care much about what replaces them. But since we know that “lower bonus” often means “higher salary,” Wall Street bashers and boosters alike should pause to consider whether lowering bonuses actually produces any benefits other than catharsis.

The American Genius is news, insights, tools, and inspiration for business owners and professionals. AG condenses information on technology, business, social media, startups, economics and more, so you don’t have to.

Business Finance

Politicians reconsider PPP rules too cumbersome for small businesses

(BUSINESS FINANCE) The PPP loans may have some changes coming soon, to help small businesses even more by extending the time they have to spend the money.

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Congress has reported talks over fixing parts of the Paycheck Protection Program (PPP), a key program designed to help businesses during the coronavirus pandemic. Changes could range between small tweaks to an overhaul of program requirements. Congress remains divided over a phase four relief bill (passed in the House last week) which includes several of those PPP changes.

The PPP was created to provide forgivable loans to businesses with fewer than 500 employees. Although the Treasury is continuing to offer updated guidance, any significant changes will require approval from Congress.

One of the major potential changes is an extension to the eight-week time frame for businesses to spend their loan money. Senator Marco Rubio (R.-Fla.) is advocating the change. He told reporters “I think the more important thing to change is the time frame in which they can use it for,” Rubio told reporters. “We do need to give them more time to spend those monies.” The hope is to pass those changes before the first PPP loan recipients reach their deadline in early June.

Other changes proposed in the House bill include extending the spending time period to 24-weeks and eliminating the requirement for 75 percent of loan spending on payroll in order to qualify for full forgiveness. The flexibility could allow recipients to allocate money towards rent, another challenge facing small business owners. While Senate Republicans haven’t shot down that option, they’ve voiced concern on the spending rule which was originally designed to keep workers employed. Meanwhile, Democrats argue for flexibility which could support businesses with fixed costs. Both sides are open to discussing a 50 percent payroll and 50 percent additional cost breakdown in a new PPP changes.

The Small Business Administration has reported $195 billion from the $310 billion of the second tranche of PPP has been approved. With no defined plan to reopen the country, small businesses are counting on relief programs. Senior White House advisor Kevin Hassett has said the government can’t continue to lend money to businesses indefinitely. “It is something we can do through Jun, I would, guess if there’s enough cash for that.”

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Business Finance

Unless you call your representative, the IRS will be forced to screw PPP recipients

(BUSINESS FINANCE) Small business owners, can your Covid-19 loans really be forgiven? “Free money” never sounded so good…or bad. The CARES act missed a vital tax hole.

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The Paycheck Protection Program (PPP) portion of the Coronavirus Aid, Relief, and Economic Security Act (CARES) was hailed as a revolutionary life line to small businesses that had to shutter their doors against the plague.

Basically, the Feds said: Keep your expenses up, pay your staff so they don’t have to go on assistance, and not only will we loan you the cash to do so, so long as you can prove it was spent stimulating your business, we’ll not only forgive the loan, it won’t be taxed as income.

Right said, Fed. But some sharp-eyed readers of the letter of the law say they’re too savvy for these loans, and here’s why.

It was announced on April 30th that anything paid with PPP payments won’t be tax deductible.

Specifically, the IRS says, expenses that qualify a business owner loan forgiveness cannot be deducted from 2020’s tax filings, in order to keep people from getting “double tax benefit[s].” You can read up on the tax code citations and legal precedents right here, straight from the tax horse’s mouth.

So what’s happening here is you can “enjoy” free money from the government, but if you were counting on it being non-taxable income, then you’d best count again.

I may be a simple country (adjacent) April, but is the purpose of handing out money somehow… NOT to put business owners AHEAD?

This move strikes me as a ship throwing someone in the water a life-vest… then sailing off without reeling them in.

‘Well you don’t want people to double-dip,’ is a rebuttal I’d expect. Or ‘that’s how the CARES Act was written,’ but right now we’re dealing with people and their businesses needing EXTRA. Not ‘a bit,’ not ‘enough,’ but quantifiably EXTRA help in order to do better than just tread water. We NEED that extra dip… and individual bowls for everyone while we’re at it.

“No half measures,” as a wise, narcissistic fictional criminal once said. Brian Cranston won an Emmy for delivering that line, so I figure it’s stand-by-able.

As of right now, there’s not much that can be done except for business owners to gather and lobby their representatives en masse to alter the language of the CARES Act, or add an amendment to it that allows the IRS to let the deductions business owners need to slide.

As is, strict interpretation of the law doesn’t give our beloved agents enough wiggle room to LET this money be deducted. And I’m guessing that the IRS isn’t really the type of agency to DO interpretative judgements as a matter of course so… the ball is in Congress’ court on this one.

Fortunately, it seems like they’re taking it and running with it!

On May 12, a bill aptly named the HEROES Act was proposed in the house, and it clarifies: “For purposes of the Internal Revenue Code of 1986 and notwithstanding any other provision of law, any deduction and the basis of any property shall be determined without regard to whether any amount is excluded from gross income under section 20233 of this Act or section 1106(i) of the CARES Act.”

They’re reaching past the last stimulus bundle (that I haven’t received my share of yet by the way, cough cough) with a total of three trillion as a distribution goal. That’s a three followed by twelve zeroes, sweeties. And this is all cold, hard, tax free, DEDUCTIBLE cash.

My advice here? Get your letter-writing hands ready, business owners! It’s not a law YET, so keep pushing your politicians as best you can, and telling your friends, (and sharing our articles) And best of luck.


Sidenote from the Editor: Research for this story includes insights from Caleb Ellinger at Ellinger Services (CPA wizard (our word, not his) in Austin who is very well known as serving startup and freelance communities).

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Business Finance

Companies seek brownie points by returning PPP cash they shouldn’t have applied for

(BUSINESS FINANCE) It turns out some large national companies received millions of dollars of the PPP loans that were pitched as for small businesses, what gives?

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The CARES Act, passed last month in response to the COVID19 pandemic, allocated over $370 billion to small businesses in the form of PPP loans. The Paycheck Protection Program (PPP) was hastily ran through Congress, with many of the small details left for the SBA, IRS and other entities to iron out, even though the legislation was over 800 pages.

Now, Bloomberg is reporting that many small businesses are returning loans as the Trump administration issues new guidance for these loans.

PPP loans- confusion over eligibility, rules and restrictions

The PPP was designed to incentivize employers to maintain payroll through the pandemic. The law’s intent was to help small businesses, non-profits and smaller organizations without other resources.
Within just a few days, the money was exhausted.

As Congress allocated more money for the program, it came to light that many larger businesses made requests for the money. Shake Shack, a national chain, received $10 million. Ruth’s Chris steakhouse received $20 million. Even the Los Angeles Lakers received about $4.6 million through the PPP. It should be noted that each of these entities returned the money. Technically, each of the entities qualified under the PPP, too.

Treasury Secretary Steven Mnuchin and the SBA announced that all PPP loans over $2 million will be reviewed to ensure borrower eligibility. The SBA continues to provide guidance for the PPP loans. One financial expert likened it to building the plane while it was still in the air. Some companies are receiving guidance that no publicly traded companies qualify, even though these companies have received PPP funding, and some intend to keep it.

If a company doesn’t qualify for the PPP, they could face criminal charges for making false certifications on their loan applications. This could include statements that indicate the PPP funding is necessary to support ongoing operations.

Return the PPP money or not?

The SBA is giving borrowers a deadline of May 14 to return PPP loans without any legal trouble. Some companies are returning the money, not only because of public backlash, but to avoid problems. The government is sending a message that it will be vigilant over the use of PPP funding. There are still so many questions about how the loans will work and will be forgiven, it pays to tread carefully if you’ve received more than $2 million in funding under PPP.

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