How Executive Compensation Changes In Response to Personal Income Tax Shocks (Who Pays the CEO’s Income Taxes?)

We quantify the effects of personal income taxes on executive compensation in the US. Addressing other determinants of compensation and endogeneity concerns, CEOs receive an abnormal increase in pay of 6.4% to 7.4% following large state personal income tax increases, relative to pay growth of CEOs who do not experience such tax shocks. Various estimates indicate that pay increases within two years by an amount that more than fully compensates the CEO for the increased tax liability.  The increase in pay is larger when: there are more employment options in the industry; the CEO is less tied personally to the company; the CEO-firm match is more valuable; and governance is doubtful (high E-index, low board independence).  In stark contrast, CEOs and other NEOs do not experience a cut or slower growth in pay following a tax cut. The measured size of and asymmetry in the response to state tax shocks quantify the extent to which both supply considerations, arising in part from outside employment options, and agency concerns and rent extraction affect CEO pay.