Effects of the Levin/McCain Bill
In essence, the Levin-McCain bill (S. 1940) uses a tax hammer to get companies to change their accounting treatment of stock options. This is ultimately damaging to the employee workforce who benefit from the investment in the future value of their employer. The result would likely mean the end of stock options, and the loss of a large financial investment opportunity for company employees.

Why is the Levin/McCain Bill is Unnecessary?
Proponents of S. 1940 argue that current accounting rules do not provide enough information to investors about the cost of stock options to companies.

However, current accounting and tax rules governing stock options resolve this concern. A company may expense the stock option grants on its earnings statement or comport with the Financial Accounting Standards Board’s (FASB) requirement that companies provide investors with detailed information in a footnote in their financial statement showing the potential impact of the stock options.

Shareholder advocates supported this approach because it very much improved the information available to investors. Furthermore, the information provided in the footnote clearly shows the effect stock options have had on dilution of stock value and the net profit of the company.

The Levin/McCain bill confuses current rules and proposes that:

1. companies should only be allowed to retain their corporate tax deduction for stock options if they record stock options on their earnings statement as an expense, and
   
2. the amount of the corporate tax deduction should be tied to the amount recorded as an expense on the company earnings statement

1. No money has changed hands. When a company grants a stock option to an employee, no money has changed hands. Rather, the employee has a future right to purchase the company’s stock and become an owner of the company. There is not a definite value of the option at grant, and therefore it is very hard to report that value on a company’s earnings statement at the time of grant.
2. Employees may never exercise, or buy, the stock. Employees may leave the company before the stock option vests, or the stock value may have plummeted below the grant price and so the employee will not likely exercise the option at a loss. If the Levin/McCain bill passes, a company will be forced to charge an expense to earnings, despite the unpredictability of the final outcome of the stock option.

Current Rules are not Broken
The accounting and tax rules governing stock options currently work. Defined briefly:

• At the time the employee is given or granted a stock option, no money has changed hands but rather an employee merely has the future right to buy the stock at a set price (the grant).

• When a stock option is exercised, the employee has purchased the stock. The employee must pay income taxes on the value of the stock appreciation since the time of grant.

• The employer likewise is entitled to an income tax deduction in the amount that the employee is required to include as income. The tax law treats the transaction as a bargain sale to an employee and recognizes the employer could have sold the stock option on the open market and received the market price.

• Because stock options are not compensation for past work, but are rather an incentive for future performance, most companies choose to report this information in the footnote disclosure. (Compensation is recorded in the company’s earnings statement.)

Would enactment of the Levin-McCain bill, prevent the kind of accounting irregularities presented in the Enron case?
No. The bill confuses financial and tax accounting, and could result in companies providing less information to investors.

Didn’t Enron somehow sidestep paying taxes because of the stock options they issued?
Proponents of the Levin/McCain bill complain that Enron reduced its tax liability by claiming $600 million in corporate tax deductions from the exercise by its employees of stock options. Every corporate tax deduction from stock option exercises is determined by the taxable income realized by the employee. Employees pay tax at higher rates than corporations. The tax paid by the employee more than offsets the deduction claimed by the company, thereby enhancing tax receipts.