First, do no harm

When I was in my mid-teens I heard a report on the news about some small, underdeveloped country somewhere - probably Africa or South America - where the government needed workers for some project. To fill their needs they had entered a remote village, rounded up all the able-bodied men and boys and marched them off to work. Their families did not know where they had gone or when - if ever - they would be back. I believed passionately that that story was horrible. The world is full enough of dangers and disasters that separate family members from each other: it was utterly unconscionable that a government would deliberately set out to do something so cruel to its own people. A government’s first and most important function, after all, is to protect its citizens to the very best of its ability.

In my 20s I read Ayn Rand’s We The Living - or at least I attempted to. I found the book so sad and so upsetting that I could not finish it. Unfortunately I have never been able to forget the part of the book where the heroine and her beloved end up living in one room because the government has decided that is all they need or deserve.

Now comes the news of the suicide of David Kellerman, CFO of Freddie Mac. I do not believe Mr. Kellerman killed himself solely because of his job: he - unlike the villagers in that original news story and unlike Rand’s fictional heroine - had other options and if his only problems were his work problems he would have taken one of them. Furthermore I’ve never been all that enamored of the idea of a slippery slope: surely rational human beings can decide to go just so far and no further.

Nonetheless, reading this story, it’s hard to ignore that my government - my government - was delighted to have Mr. Kellerman work around the clock to help it out while at the same time inciting the populace to hate him for his “outrageous” compensation. My government - my government - bullied Mr. Kellerman to violate not just his professional ethics but his fiduciary duty while at the same time reserving the right to decide - in its infinite wisdom - how much of his promised salary it would allow - allow - him to receive for the work he’d already done. No, it’s not on a par with dragging him off to a work camp or confining his living space to one room. But it’s not exactly an example of the government protecting its own either. And it is most emphatically not how I want my government to operate.

A five-year-old daughter, for God’s sake. Why didn’t Mr. Kellerman just tell them all - all the dishonest Obamas and Geithners; all the malign Franks and rats-in-the-belly Schumers and other criminally irresponsible, grandstanding Congressmen; all the sleazy regulators and pitchfork wielding villagers - to go to Hell?

We all need a timeout

It is time for a moratorium on Federal government action. We should simply shut down the entire Federal government for at least two weeks, preferably a month. The minimum necessary administrative functions could go on in the Executive Branch but no new plans, proposals, programs, or regulations should come from them. Congress should take a recess: no hearings, no bills proposed, no nothing. Ideally the President, the Vice-President, everyone in the Administration, and everyone in Congress would stop talking to the press.

This would give everyone in the government a chance to calm down, stop thrashing about, listen to what people are saying, and think through exactly what it is they are all trying to accomplish. I’d like for the same moratorium to cover State and local governments and officials, too. Yes, there’s a lot that needs to be done but surely taking a month to chill can’t do any more harm than the last 62 days - or seven months - have done.

“When you are in trouble,” Abbess Catherine told herself, “think of a bird caught under a net; the more it struggles and makes a flutter, the more it gets enmeshed; if it is still and looks about for a hole, keeping its strength, it has a chance of escape.

A round of drinks please!

Imagine that my husband and I both work. I make $100,000 a year; he makes $25,000. We have a joint checking account and joint credit cards. He usually handles the bills so I don’t pay a lot of attention to what he’s spending money on. One day a co-worker says she saw my husband out on the town the previous week and wondered what he was up to.

I go home and dig through the credit card receipts and sure enough he made a $100 charge at a restaurant last week. I confront my husband about it and he says he went out with a bunch of friends and he bought all their drinks.

I am incensed. How could he do this, I scream. The only reason you’re not making a decent salary now is because you still haven’t recovered from your car crash after you and your druggie friends went out bar hopping last year.

My husband explains that these friends are different. They’re all from work and they’re really helping him get back on his feet. When they rallied around after the crash he promised them that he’d buy them all drinks as soon as he could. He really wanted to keep his promise because he thinks they’re his best hope of eventually finding a better job. In fact he’s promised to take them out and buy them drinks a couple more times later this year.

I am unconvinced and unforgiving. I insist that he repay the money he spent buying them drinks last week and the same holds for any future drinks. Since I figure he has a right to a drink or two himself I only demand that he pay back $35 and snap that he should get his friends to pay back another $35. He explains that if he does that it will be hard for him to get more help from them. Tough, I say, then pay their share yourself.

My husband gets the joint checkbook and writes me a check for $70. I cash it and spend all the money on drinks for my own friends.

If you think I made money by having my husband pay me back from the joint checking account, you’ll love S. 651, the Senate’s plan to claw back the AIG retention bonuses.

On the other hand if you’ve managed to figure out that my husband “repaid” me mostly with money that I contributed in the first place and will continue to do so in the future, you probably want to know what dimwit came up with the Senate’s plan. Not to worry. It was only the “Senate Finance Committee Chairman Max Baucus (D-MT) and his GOP counterpart, Sen. Chuck Grassley (IA)”. Thank goodness it wasn’t anyone who is supposed to understand money.

AIG Bonus Kerfuffle

Since I seem to have lots to say about the AIG bonus kerfuffle, I’ve created a new category cleverly called “AIG Bonus Kerfuffle” and tagged the appropriate posts with that category and only that category.

Scattered Tribe

{Obligatory disclaimer: I am not a lawyer much less a Constitutional lawyer much less a Constitutional law professor much less “one of the foremost constitutional law scholars and Supreme Court practitioners in the United States.” I can read, however, and report on what I see on the plain face of a document. That is what I have done here and if I’ve missed some - or all - legal subtleties that completely undermine my argument I’m sure I’ll hear about it if an AIG bonus claw-back ever actually becomes law since that would - I hope - result in an immediate Constitutional challenge.}

Conor Clarke at The Atlantic consulted Laurence Tribe about the Constitutionality of a Congressional measure to tax AIG bonuses at a very high rate specific to them. Clarke specifically raised the bill of attainder question and Tribe replied, in part:

Moreover, the fact that the aim of such a tax would be manifestly regulatory and fiscal rather than punitive and condemnatory, and that the tax would be part of a measure that would be prospective as well as retroactive in its operation, would serve to blunt the force of any bill of attainder challenge. Finally, such a tax would be devoid of the sting of political retribution and would not partake of the classic "trial by legislature" that the attainder ban was designed to avoid.

Realizing that lawmakers sounded both “punitive” and “condemnatory”, Clarke asked Tribe for clarification. Tribe replied:

Some perception of political retribution might be unavoidable, but that's not enough to render such a measure unconstitutional. It's well established that the impassioned remarks and subjective intentions of scattered members of Congress don't suffice to condemn as a purely punitive enactment an otherwise valid regulatory or tax measure. If the law were otherwise, it would be much too easy for lawmakers to doom laws with poison-pill remarks.

I laughed, of course. In which universe were the punitive, condemnatory, and retributive remarks about AIG bonuses restricted to simply “scattered” members of Congress? I’m not laughing now.

In his first post about Tribe, Clarke points out that Tribe “argued one of the most important Bill of Attainder cases at the Appellate level: SBC Communications v. FCC.” I skimmed through both the District Court ruling on this case and the Court of Appeals opinion. SBC won the case originally: the District Court held the FCC regulations “constitute a bill of attainder and thus are unconstitutional”. However, the US Court of Appeals, 5th Circuit, overturned this saying “there simply cannot be a bill of attainder unless it is also the case that the Special Provisions impose punishment on the BOCs.”

Despite their different results, however, both opinions focus heavily on whether the FCC ruling in question was “punitive”. The bottom line was summed up by the Court of Appeals thus:

In deciding whether a statute inflicts forbidden punishment, we have recognized three necessary inquiries: (1) whether the challenged statute falls within the historical meaning of legislative punishment; (2) whether the statute, "viewed in terms of the type and severity of burdens imposed, reasonably can be said to further nonpunitive legislative purposes"; and (3) whether the legislative record "evinces a congressional intent to punish."

Now that the House has passed a specific bill - H.R. 1586 - we can take a look at it and see how well it holds up to these three inquiries.

First, does it “fall within the historical meaning of legislative punishment”? This looks like an area that is continuously under construction by the courts but passages from the opinions seem to indicate it could:

The Supreme Court has stated that the Bill of Attainder Clause is "not to be given a narrow historical reading," rather, it is "to be read in light of the evil the Framers had sought to bar: legislative punishment, of any form or severity, of specifically designated persons or groups." (from the District Court opinion)

The Supreme Court in Nixon again echoed this sentiment when it stated that "[o]ur treatment of the scope of the Clause has never precluded the possibility that new burdens and deprivations might be legislatively fashioned that are inconsistent with the bill of attainder guarantee." (from the District Court opinion)

the Court examined a federal law that cut off salary payments to certain named federal employees, allegedly due to their "subversive" activities. Finding that the law "'operate[d] as a legislative decree of perpetual exclusion' from a chosen vocation," and thus "accomplishe[d] punishment of named individuals without judicial trial," Justice Black struck it down as an unconstitutional bill of attainder. (from the Court of Appeals opinion)

In other words, it is not unreasonable to argue that depriving someone of a large part of their contracted salary constitutes “punishment”.

Second, can H.R. 1586 “reasonably ... be said to further nonpunitive legislative purposes"? I say it cannot. I can think of two nonpunitive legislative purposes that could be claimed for H.R. 1586. First, Congress can claim it is intended to recover ill-spent Federal money. Yet the bill explicitly leaves a great deal of such money unclaimed by exempting bonus money paid to employees making less than $250,000 per year. Had the bill been intended to recover ill-spent Federal money it would have taken the same percentage of bonus money from every employee and - arguably - would have taken 100%.

Congress could also claim that H.R. 1586 is intended to prevent future bonuses being given by bailed-out companies. Yet the bill does not prohibit such bonuses; it merely taxes them. A bailed-out company that believes it is legally obligated to pay such bonuses going forward is unlikely to be deterred by H.R. 1586. It will make far more sense for the company to honor what it sees as its contractual obligations and let the IRS take the 90%. (The Senate’s claw-back bill - S. 651 - appears more likely to qualify as a preventive measure but it fails the idiocy test, as I’ll explain in a later post.)

Thus I do not believe that H.R. 1586 can reasonably be said to “further nonpunitive legislative purposes”. (Unless, of course, one agrees with Representative Charlie Rangel that “respond[ing] to the fears and anger of the people” constitutes a legitimate government purpose.)

Third, does the legislative record for H.R. 1586 "[evince] a congressional intent to punish”? In reference to the salary case mentioned above, the Court of Appeal’s sums up Frankfurter’s dissent as follows:

Because he found no indication in the text of the statute or the circumstances of its passage that Congress intended it as a punitive measure, Justice Frankfurter concluded that it was not a bill of attainder.

I think the text of H.R. 1586 gives weight to the argument that Congress intended it punitively. As I said above, if the House taxed all the bonuses equally Congress could more believably have argued that it was attempting to recover ill-spent Federal funds. Instead, by making it clear that the tax applies only to those making more than $250,000, the House explicitly leaves ill-spent Federal money in the hands of some bail-out bonus recipients while reserving its wrath for those who make “too much” money.

It is when we consider whether the “circumstances of [the] passage” of H.R. 1586 indicate that Congress intended it as a punitive measure that the importance of Tribe’s clarification becomes clear. If we consider all the statements made by Congressmen about how outrageous the AIG bonuses are, it is quite clear that H.R. 1586 “evinces a congressional intent to punish.” By characterizing this ferocious and widespread Congressional assault on AIG as coming only from “scattered members of Congress” Tribe is launching a pre-emptive strike against attempts to use Congressional intent as part of an argument that a claw-back bill is punitive and therefore reasonably constitutes a bill of attainder.

-----

Reading {heading added 3/24/09 for clarity}:

Another case in which BellSouth challenged the FCC can be found here. Laurence Tribe argued for BellSouth. Judge Santelle’s dissent is particularly interesting.

The Wall Street Journal also consulted Tribe about the Constitutionality of an AIG bonus claw-back law and did not restrict its inquiry to the bill of attainder argument. Instead WSJ raised five possible Constitutional issues: Bill of Attainder; Ex Post Facto; the Contract Clause; the Due Process Clause of the Fifth Amendment; and the Takings Clause of the Fifth Amendment. Tribe dismissed all of them.

Generally I will just say that my first reaction when I considered H.R. 1586 was that surely it must be unconstitutional since it violates what seems to be the spirit of so many provisions, the very ones WSJ raised with Tribe. I know this attitude is a horror to strict constructionists and in general I lean their way but it does seem to me that H.R. 1586 is simply wrong.

Specifically, I find it interesting that in dismissing the issue of substantive due process Tribe says:

And, as to substantive due process, the only relevant requirement would be that the challenged measure be rationally calculated to achieve a legitimate government purpose, something nobody could deny in this instance.

As I said above, I do deny that H.R. 1586 achieves a legitimate government purpose which I believe means Tribe is - as the television courtroom dramas like to say - assuming facts not in evidence.

After finishing this post and while looking for a source for the Rangel quote, I found this article from CNN. It backs up my arguments here and provides a little selection of some of the more egregious remarks made by Congressmen with regard to the AIG bonuses. I was particularly struck by this comment which echoes what I said above about my gut level feeling that H.R. 1586 is simply wrong:

"What a lot of judges are going to think is, 'I'm not exactly sure what clause of the Constitution this fits under, but it smells bad,'" said Seidman.

Mendacious names and a magic number

When you read outraged denunciations of the AIG retention bonuses, the writers almost always state that the bonuses went to “executives” or “managers”. Google aig+bonus+executive and you see lots of references to the “executives” who got these bonuses. Or browse through these snippets (emphasis always mine):

AIG is paying out millions of tax dollars in bonuses to their incompetent senior management [snip] like you and unlike AIG managers, I have to work for a living (Bitch PhD)

defending multimillion-dollar bonus payments for the people who run the small division that brought down the company. If the government doesn’t let them have their money, they will walk away, Mr. Liddy says, and nobody else will know how to clean up their mess....

Nothing highlights the fiction of performance-based pay quite so well as retention bonuses. It turns out that, at least for chief executives, retention bonuses are almost entirely unnecessary. (Brad DeLong)

strict limitations on the executive compensation paid by bailed-out companies (
Glenn Greenwald)

It’s much easier to despise these bonuses - and the people who got them - if we can make them all executives and managers, part of that parasite class that doesn’t really work for a living but instead feeds off the sweat of the brow of those who actually do something. However even if you grant that mangers are useless (and I most emphatically do not do so: aggravating, yes; useless, no) it’s not really accurate (or, um, true) to say that only “managers” lounging in their “executive” suites got these bonuses.

Look first at AIG’s Employee Retention Plan. It points out that:

In the first quarter of 2008, AIGFP adopted a retention plan for about 400 employees that provided guaranteed payments to employees if they worked through specified payment dates (or either resigned for good reason or was terminated without cause before the relevant dates). [snip]

AIGFP has gone from about 450 employees in five locations in early 2008 to about 370 employees today.

So of the 450 people who worked for AIGFP in early 2008, 400 signed retention contracts. Does anyone believe this entire division has 400 executives and managers and only 50 “employees”? Furthermore, 80 employees have left. Even if all 80 employees who left were from the 400 who signed retention contracts, there would still be 320 employees left who also signed such contracts. In other words, at least 320 AIGFP employees must have gotten retention bonuses. Not all of them could have been executives and managers. At least some of them must have been actual workers.

The Deal Professor at the New York Times has reviewed the actual retention contracts (he doesn’t like them - be sure to read his whole write-up) and notes something that was also in the AIGFP Employee Retention Plan (emphasis mine):

These bonuses are payable regardless of performance and are calculated at 100 percent of 2007 compensation for all employees except senior management, who receive 75 percent of 2007 compensation.

Donkeylicious prints part of an email (again, a must read) that explains why paying the bonuses was necessary. One of his bullet points begins, “Imagine you're a trader at AIGFP.” Not manager, not executive. Trader.

The Washington Post actually visited AIGFP in Connecticut and found both executives and employees to talk with. The employees quoted in the article talked about AIGFP employees leaving if they had to return their bonuses and about how friends and relatives they haven’t heard from in years were calling to say, “'Oh, my God, you work for that place?”

The executives took a broader view. One said:

Guys have worked their [tails] off to try to get value for the taxpayer. This isn't money that's being advanced to us. People have performed the work and done it exactly as we asked them to do.

Gerry Pasciucco is AIGFP’s Chief Operating Officer, brought in by CEO Edward Liddy to close down Financial Products in an orderly fashion:

"Everybody, including my secretary and including the guy down the hall that serves lunch, gets a payment," said Pasciucco, who added that he received no retention payment and has no contract.

Secretary, yes. Lunch guy, yes. COO, no.

You can certainly argue that no one at AIGFP should get any bonuses, retention or otherwise, but it is flatly dishonest to insist these bonuses are only for “executives” or “management”. Such insistence is simply a rhetorical device to further whip up outrage - especially when the writer is contrasting the bonus-receiving “management” with the UAW “workers” whose contracts with the auto companies were renegotiated as part of their bailout.

It’s pretty clear that what really angers most people is not that bonuses were given to useless higher levels but that everyone at AIG makes “too much” money. How much is too much? Two-hundred fifty-thousand dollars, that’s how much. We know that because $250,000 is the Magic Number in H. R. 1586 , “An act to impose an additional tax on bonuses received from certain TARP recipients”, also known as the 90% clawback.

Once I deciphered 1586, the bottom line was this (ignoring the issue of “Married Filing Separately” just to keep things simple):

If your base salary is more than $250,000, then the Feds are going to calculate your additional 90% tax on your whole bonus.
If your base salary is $250,000 or less and your bonus puts you over $250,000, then the Feds are going to calculate your additional 90% tax on the amount by which your income exceeds $250,000.
If your base salary is $250,000 or less and your bonus does not put you over $250,000, then the Feds are going to pretend you didn’t get a bonus and you just pay regular tax on your entire income, base and bonus combined. No additional 90% tax applies.

Short version: if you make $250,000 you’re making plenty and you shouldn’t have gotten a bonus.

This number raises a couple of questions. If $250,000 is plenty of money for anyone, why did the House only claw back bonus money from AIG employees? Shouldn’t it claw back all compensation over $250,000? Under 1586, if any AIG employee makes $600,000 in base salary and got another $400,000 in retention bonuses, the Feds will take 90% of the $400,000 but only the standard amount of the $600,000. Why not slap the 90% tax on everything over $250,000? Let the guy pay the usual tax on the $250,000 he deserves and then take another $675,000 to remind him he shouldn’t have gotten that extra $750,000. He’ll get to keep $75,000 of the “excess” which means he’ll make $325,000. Surely that’s enough to compensate anyone for any kind of job.

And, besides, where did they get the $250,000? (Rhetorical question. I do actually know where they got it but work with me here.) Maybe it’s not enough. If we look at the 2009 individual income tax rates, $250,000 isn’t in the top tax bracket. Maybe we should let people make the $372,950 that puts them just below that top bracket.

On the other hand, maybe $250,000 is too much. Why should the any employee of a TARP recipient make more than national average? If we look at the tax information I dug up for my post on the Federal individual income tax, we’ll see that in 2005 (the last year for which I could find information) the average pre-tax income for households in the Middle Quintile was $58,000. Maybe we should decide that something closer to that number is enough income for anyone. Besides, the average pre-tax income for the Highest Quintile is only $214,500 so, yeah, clearly $250,000 is way too much. Let’s get serious here. Amend H. R. 1586 to insure that no one who works for a company that got TARP money can make more than, say, $60,000 all in. (We’ll round up a little to show our generosity.)

In all seriousness, there is no way I would have approved of any bill designed to take back the AIG bonuses; I would always have believed any such bill to be unconstitutional, hasty, petty, cruel, and dangerously precedent-setting. But if the House bill had said simply, “Any bonus money you get, we’re going to tax at 90%” I could at least have understood the rationale and found it sympathetic if not convincing: the bonus money is taxpayer money and you shouldn’t be getting extra of it at a time when so many taxpayers are hurting and your company is partly to blame.

By adding in that Magic Number of $250,000, however, the House has made it clear that it objects not to where the money came from but to how much people are being paid - and believes it has the right to translate that objection into law. That’s the most dangerous precedent of all.

H.R. 1586 in (mostly) plain English

Yesterday, the House of Representatives passed HR 1586 - An act to impose an additional tax on bonuses received from certain TARP recipients. I’ve put the entire text of the act at the bottom of the post. Since I had to decipher the act to write about it and since I want to refer back to it in subsequent posts, I’m posting my understanding of it - in more or less plain English - here.

The act does definitions in the middle. I’m going to do them first:

Covered TARP Recipient is defined in (c) (1) and (2):
A. Any entity that got TARP money after December 31, 2007, of at least $5 Billion
B. Fannie Mae and Freddie Mac
C. “any person who is a member of the same affiliated group (as defined in section 1504 of the Internal Revenue Code of 1986, determined without regard to paragraphs (2) and (3) of subsection (b)) as a person described in subparagraph (A) or (B),” (don’t ask me to explain that one)
D. Any partnership more than 50% owned by an (A), (B), or (C).

In other words, any of the companies that got bailout money from the original $700 Billion Paulson plan and any of their subsidiaries or partnerships.

Once the Covered TARP Recipient has paid back enough of the bailout so the amount it still owes is less than $5 Billion, it’s no longer a Covered TARP Recipient and the additional tax no longer applies.

Disqualified Bonus Pay is defined in (b) (2) and (3):
Retention, incentive, or other bonuses over regular salary
But not commissions, welfare or fringe benefits, or expense reimbursement
It’s not Disqualified Bonus Pay if you give it all back to your employer - unless your employer somehow pays you off to do so.
Oh, and if your employer compensates you for some or all of the additional tax you have to pay based on this bill, that reimbursement itself becomes Disqualified Bonus Pay.

In other words, Disqualified Bonus Pay is everything most people think of as a bonus. It’s the $156 Million AIGFP just gave out.

TARP Bonus is defined in (b) (1):
Subtract $250,000 from the taxpayer’s adjusted gross income. (If the taxpayer is married but files singly (MFS), subtract $125,000.) I’m going to call this “excess income” for simplicity’s sake.
If the taxpayer got more in Disqualified Bonus Pay than his excess income, then set his TARP Bonus to his excess income.
Otherwise, set his TARP Bonus to his Disqualified Bonus Pay.

In other words:
If your base salary is more than $250,000 ($125,000 MFS) then the Feds are going to calculate your additional tax on your whole bonus.
If your base salary is $250,000 or less ($125,000 MFS) and your bonus puts you over $250,000, then the Feds are going to calculate your additional tax on your excess income.
If your base salary is $250,000 or less ($125,000 MFS) and your bonus does not put you over $250,000, then the Feds are going to pretend you didn’t get a bonus and you just pay regular tax on your entire income, base and bonus combined. No additional tax applies.

Short version: if you make $250,000 you’re making plenty and you shouldn’t have gotten a bonus.

Okay, now for the tax calculation itself:

Section 1:
(a) If you work at or used to work at a Covered TARP Recipient then your tax for 2009 (and every year from now on) will be calculated thus:

(1) subtract the amount of your TARP Bonus from your taxable income and do the usual tax calculation on the result; then add to that

(2) 90% of your TARP Bonus.

The sum of those two calculations is how much tax you owe the Feds for 2009.

And a few rules:

(d) If you’re not sure what some tax terms mean, they mean the same as they do in the tax code of 1986.

(e) “Coordination With Internal Revenue Code of 1986- Any increase in the tax imposed under chapter 1 of the Internal Revenue Code of 1986 by reason of subsection (a) shall not be treated as a tax imposed by such chapter for purposes of determining the amount of any credit under such chapter or for purposes of section 55 of such Code.”
I’m not going to go digging around in the tax code but I assume there are some calculations in there to determine some type of tax credit and the additional taxes imposed by this bill can’t be used in those calculations.

(f) The Secretary of the Treasury gets to figure out the pesky details of how this will work.

(g) This only applies to Disqualified Bonus Pay received by the taxpayer after December 31, 2008, and to tax years after that date.

That’s it. A couple of examples to go on with.

AIG is a Covered TARP Recipient. They got way over $5 Billion from the TARP act and certainly haven’t paid it down yet.

The $165 Million in retention bonuses that everyone has been screaming about constitute Disqualified Bonus Pay. They are over and above regular salary and they don’t fall into the excluded groups of commissions, welfare or fringe benefits, or expense reimbursement.

So let’s calculate taxes for some AIGFP workers:

John is single.
His adjusted gross income from salary is $300,000.
His retention bonus payment on March 15 was $400,000. This is his Disqualified Bonus Pay.
John’s total adjusted gross income is $700,000 ($300,000 salary plus $400,000 bonus).
His excess income (adjusted gross income minus $250,000) is $450,000.
His TARP Bonus is set to the lesser of his excess income and his Disqualified Bonus Pay: $400,000.
John will pay the usual income tax on his $300,000 base salary and an additional $360,000 in tax on his TARP Bonus of $400,000.

Edward is single.
His adjusted gross income from salary is $200,000.
His retention bonus payment on March 15 was $100,000. This is his Disqualified Bonus Pay.
Edward’s total adjusted gross income is $300,000 ($200,000 salary plus $100,000 bonus).
His excess income (adjusted gross income minus $250,000) is $50,000.
His TARP Bonus is set to the lesser of his excess income and his Disqualified Bonus Pay: $50,000.
Edward will pay the usual income tax on his $200,000 base salary and an additional $4,500 in tax on his TARP Bonus of $50,000.

Mark is single.
His adjusted gross income from salary is $150,000.
His retention bonus payment on March 15 was $100,000. This is his Disqualified Bonus Pay.
John’s total adjusted gross income is $250,000 ($150,000 salary plus $100,000 bonus).
His excess income (adjusted gross income minus $250,000) is $0.
His TARP Bonus is set to the lesser of his excess income and his Disqualified Bonus Pay: $0.
This means Mark has no TARP Bonus under the terms of this bill.
Therefore Mark will pay the usual income tax on his combined income of $250,000. No additional tax applies.

-----

The following is the text of HR 1586:

HR 1586 EH

111th CONGRESS

1st Session

H. R. 1586

AN ACT

To impose an additional tax on bonuses received from certain TARP recipients.

Be it enacted by the Senate and House of Representatives of the United States of America in Congress assembled,

SECTION 1. BONUSES RECEIVED FROM CERTAIN TARP RECIPIENTS.

(a) In General- In the case of an employee or former employee of a covered TARP recipient, the tax imposed by chapter 1 of the Internal Revenue Code of 1986 for any taxable year shall not be less than the sum of--

(1) the tax that would be determined under such chapter if the taxable income of the taxpayer for such taxable year were reduced (but not below zero) by the TARP bonus received by the taxpayer during such taxable year, plus

(2) 90 percent of the TARP bonus received by the taxpayer during such taxable year.

(b) TARP Bonus- For purposes of this section--

(1) IN GENERAL- The term `TARP bonus' means, with respect to any individual for any taxable year, the lesser of--

(A) the aggregate disqualified bonus payments received from covered TARP recipients during such taxable year, or

(B) the excess of--

(i) the adjusted gross income of the taxpayer for such taxable year, over

(ii) $250,000 ($125,000 in the case of a married individual filing a separate return).

(2) DISQUALIFIED BONUS PAYMENT-

(A) IN GENERAL- The term `disqualified bonus payment' means any retention payment, incentive payment, or other bonus which is in addition to any amount payable to such individual for service performed by such individual at a regular hourly, daily, weekly, monthly, or similar periodic rate.

(B) EXCEPTIONS- Such term shall not include commissions, welfare or fringe benefits, or expense reimbursements.

(C) WAIVER OR RETURN OF PAYMENTS- Such term shall not include any amount if the employee irrevocably waives the employee's entitlement to such payment, or the employee returns such payment to the employer, before the close of the taxable year in which such payment is due. The preceding sentence shall not apply if the employee receives any benefit from the employer in connection with the waiver or return of such payment.

(3) REIMBURSEMENT OF TAX TREATED AS TARP BONUS- Any reimbursement by a covered TARP recipient of the tax imposed under subsection (a) shall be treated as a disqualified bonus payment to the taxpayer liable for such tax.

(c) Covered TARP Recipient- For purposes of this section--

(1) IN GENERAL- The term `covered TARP recipient' means--

(A) any person who receives after December 31, 2007, capital infusions under the Emergency Economic Stabilization Act of 2008 which, in the aggregate, exceed $5,000,000,000,

(B) the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation,

(C) any person who is a member of the same affiliated group (as defined in section 1504 of the Internal Revenue Code of 1986, determined without regard to paragraphs (2) and (3) of subsection (b)) as a person described in subparagraph (A) or (B), and

(D) any partnership if more than 50 percent of the capital or profits interests of such partnership are owned directly or indirectly by one or more persons described in subparagraph (A), (B), or (C).

(2) EXCEPTION FOR TARP RECIPIENTS WHO REPAY ASSISTANCE- A person shall be treated as described in paragraph (1)(A) for any period only if--

(A) the excess of the aggregate amount of capital infusions described in paragraph (1)(A) with respect to such person over the amounts repaid by such person to the Federal Government with respect to such capital infusions, exceeds

(B) $5,000,000,000.

(d) Other Definitions- Terms used in this section which are also used in the Internal Revenue Code of 1986 shall have the same meaning when used in this section as when used in such Code.

(e) Coordination With Internal Revenue Code of 1986- Any increase in the tax imposed under chapter 1 of the Internal Revenue Code of 1986 by reason of subsection (a) shall not be treated as a tax imposed by such chapter for purposes of determining the amount of any credit under such chapter or for purposes of section 55 of such Code.

(f) Regulations- The Secretary of the Treasury, or the Secretary's delegate, shall prescribe such regulations or other guidance as may be necessary or appropriate to carry out the purposes of this section.

(g) Effective Date- This section shall apply to disqualified bonus payments received after December 31, 2008, in taxable years ending after such date.

The lunatics are running the asylum

Let’s start with Josh Marshall. In writing about the AIG bonus story, he expresses his dismay thus:

Secretary Geithner found out about the bonuses. He told AIG CEO Edward Liddy it wouldn't fly. And Liddy, in a curiously imperial letter, tells Geithner that much as he is pained by the situation -- to blow it out his ass.

Why does Marshall interpret the letter as “imperial”? I have no idea. Marshall quotes from a Wall Street Journal article which he assumes everyone else will find as convincing as he does. But the WSJ article quotes Liddy as explaining the legal requirement that AIG pay the bonuses. I’m am at a loss as to how Marshall can transmute a desire to obey the law into “cavalier dictates about pay-outs and bonuses”.

Then there’s Hilzoy who writes:

[AIG] promised their employees all this money back in the spring of 2008. To which I can only say: what sort of idiot would commit a company to paying a bonus to an employee even if that employee took down the company?

It never seems to occur to her to stop and think about what she has just asked. Is it possible AIG had a reason for making this commitment? Is it possible there might be more to the story than what she got out of reading, yes, the very same WSJ article that Marshall read? It never seems to have occurred to Hilzoy to dig a little deeper. (Hint: She wouldn’t have had to dig very deep; the answer is in her very next paragraph.

Then there’s Glenn Greenwald proving once again that he doesn’t do his homework. He asks:

If Congress (with Obama's support) was willing to immunize lawbreaking telecoms from lawsuits brought by their illegally-spied-upon customers, shouldn't Congress be willing to immunize AIG from bonus-seeking lawsuits brought by their executives who helped spawn the financial crisis?

Had Greenwald bothered to read the AIGFP Employee Retention Plan, he would have found the following statement:

We have also been advised that AIGFP employees in foreign jurisdictions, including France, Japan, the United Kingdom and Hong Kong, could bring valid claims for unfair constructive dismissal in those jurisdictions.

Does Greenwald believe that the United States Congress can immunize AIG against lawsuits brought by employees in other countries? Or does he simply have no clue that the “I” in AIG stands for “International”?

Logic isn’t Greenwald’s strong suit, either. He begins his article by ranting and raving that although Summers is insisting on the sanctity of AIG’s retention contracts, the UAW made numerous contract concessions as part of the government’s auto bailouts. It appears to have escaped his notice that in the case of the auto bailout the government made the contract concessions a condition of the bailout. In the case of AIG the government would have to force the concessions after having already handed over the money.

Greenwald also insists that there must be some way to tag these contracts as invalid:

there are almost certainly viable claims to be asserted that the contracts were induced via fraud or that the bonus-demanding executives themselves violated their contracts. ... Many of these executives were, after all, the very ones responsible for the cataclysmic losses.

This is puzzling. Greenwald knows these are “retention” bonuses - he refers to them as such in the next paragraph. The only way to violate a retention contract is to refuse to be retained. As for fraud, exactly how does he think the holders of these contracts tricked AIG into offering them? They said they might resign but they didn’t really mean it?

Then there’s Robert Reich who was playing hooky the day God installed logic chips. Reich argues that AIG’s arguments that it is legally obligated to pay the contracted bonuses:

are absurd on their face. Had AIG gone into chapter 11 bankruptcy or been liquidated, as it would have without government aid, no bonuses would ever be paid; indeed, AIG's executives would have long ago been on the street.

And if my aunt had wheels she’d be a teacart. Bankruptcy does provide a vehicle for wiping out contracted obligations. AIG did not go bankrupt. Hence it’s contracted obligations still stand.

These bloggers - like their rabid counterparts on cable television - are maddening and to the extent that they are well-known they’re scary. But if they don’t quite have their facts in order or interpret every fact to reach the desired conclusion or can’t quite reason from A to B, well, so what? They’re rushing to get to print, appealing to specific audiences, and - most important - they don’t make policy.

Except it looks like they do. Everyone in the government from Obama down to Representatives you’ve never heard of is echoing their upset, their outrage, their demands that Something Be Done and to hell with whether doing it requires ignoring the law - or even the Constitution. This nonsense from our politicians is neither honest nor courageous. To see why, let’s take a look at the AIG timeline.

I’ve spent a fair amount of time piecing together the story behind the AIG bonuses mostly from reading the AIGFP Employee Retention Plan and Liddy’s letter to Geithner. Wikipedia filled in a few gaps. And thanks to a Patterico link provided by Baklava at neoneocon, I found the Tom Maguire post, “The 22nd Book: The Book Of The Dead”, a remarkably sane essay that helped with the logic behind the retention bonuses. Here’s what I see as the real story.

In the Spring of 2008, AIG realized it had gotten itself into some complicated and risky businesses and while they disposed of Joe Cassano, the man who apparently got them into the mess, AIG decided it needed to be sure it could hold onto the employees who could help get it out. As Maguire puts it:

In the spring of 2008 it was clear that the Cassano-led charge into credit derivatives was an impending disaster and Cassano was on the way out. Would it better for the AIG board to (a) sack Cassano and let his disgruntled rivals quit for jobs at other firms, or (b) sack Cassano and guarantee a bonus pool to those who agreed to stay on and attempt to pick up the pieces?

AIG opted for (b) and hence signed contracts that included the infamous retention bonuses. What are retention bonuses? Good question and one which it seems very, very few people fulminating about this issue have bothered to ask. Maguire speaks of a pool but I think of retention bonuses as sort of deferred salary. As I put it at neoneocon:

AIG hires John Smith to get a particular type of business up and running. AIG is willing to pay Smith $2M a year but they don’t want him to get the business half set up and then quit to go work for someone else. So Smith gets $1M the usual way - monthly pay checks - but only gets the other $1M if he’s still working for AIG at the end of the year.

So AIG antes up retention bonuses in the Spring in hopes of holding onto employees who could stave off disaster. Unfortunately, in the Fall of 2008, AIG’s credit rating was downgraded which resulted in a liquidity crisis. The United States government provided a “credit-liquidity facility” of up to $85 billion. As part of that effort, then-Treasury Secretary Paulson named Edward Liddy to run AIG. Everyone seems to have been confident that AIG could be wound down and largely sold off at a profit. Instead, additional bailouts in 2008 brought the total to $150 billion.

In December of 2008, AIG paid the first installment of the 2008 retention bonuses: $55 million goes to AIGFP employees.

In February of 2009, Congress passed and President Obama signed the Stimulus Bill which contained some very interesting language (emphasis mine):

TITLE VII--LIMITS ON EXECUTIVE COMPENSATION
SEC. 111. (b) (3)(D)(i) A prohibition on such TARP recipient paying or accruing any bonus, retention award, or incentive compensation during the period in which any obligation arising from financial assistance provided under the TARP remains outstanding, [snip]

(iii) The prohibition required under clause (i) shall not be construed to prohibit any bonus payment required to be paid pursuant to a written employment contract executed on or before February 11, 2009, as such valid employment contracts are determined by the Secretary or the designee of the Secretary.

As you can see, the 246 Representatives and 60 Senators who voted “Yea” on this bill had no problem approving existing retention award contracts. (In fairness, I doubt they could have interfered with existing contracts without wandering into dangerous territory.) Neither did the President. And even the Senators and Representatives who voted against the Stimulus bill should have known about these provisions.

On March 1 of this year, the government made another $30 billion available to AIG.

On March 11, Liddy and Geithner discussed AIG’s second installment of the retention bonuses, amounting to $165 Million for AIGFP. Liddy wrote Geithner a letter about the topic on March 14.

At this point, we can see why virtually everyone in the government who is expressing a desire to Do Something about the AIG retention bonuses fails the honesty test. Retention bonuses are not an uncommon tool; AIG paid the first installment of the retention bonuses in December of 2008; the Stimulus plan specifically mentions “retention awards” as a type of executive compensation that must be limited; the Stimulus plan explicitly exempts preexisting contracts from the executive compensation limitation.

At a minimum every politician who was involved with the Stimulus bill - all of Congress, the President, the President's economic advisers - should have known that retention bonuses were an issue for some TARP recipients. Why else would the Stimulus bill have grandfathered them in? More specifically, the first installment was paid by AIG in December of 2008. If anyone was paying attention to AIG’s books that payment should have been noted. Yes, we have a different President now but many of the other players are the same: Geithner was involved with AIG when he was in New York; Bernanke is a carry-over from the former Administration; much of the current Congress - including those financial savants Barney Frank and Chris Dodd - were part of the former Congress. In other words, every politician who is now denouncing AIG is a politician who should have been paying attention and wasn’t.

It’s also possible that at least some of the people who should have known about the retention bonuses did know. Certainly Chris Dodd must have known something was up somewhere; he inserted the language that grandfathered in existing contracts for executive compensation. Whether Geithner, Summers, Bernanke, and Obama knew is open to question.

Bottom line: the people in government who are currently screaming loudly about AIG’s terrible behavior either should have known or did know that there were retention bonuses coming down the pike. Rather than own up to this and admit that they dropped the ball either by not knowing or by knowing and not telling, they’re distracting attention from their own mistakes by insisting that they’re “shocked, shocked to find that gambling is going on here.”

To understand why the reactions of people in government fail on grounds of courage, we need to look deeper. Why is the government working so hard to prop up AIG? Because AIG is involved one way or another in much of the derivative business that has become so dangerous to the world financial system:

[Liddy] said A.I.G. was acting as a sort of conduit to funnel money from the government to dozens of financial institutions around the world. A.I.G. had guaranteed about $300 billion in complex derivatives, many of which have gone sour, forcing it to raise capital.

The government feared that if A.I.G. became unable to pay claims, it would have sent shock waves throughout the financial world, causing many bank failures.

This is fear of the domino effect at work in the financial world. If AIG goes down, some - or possibly all - of its counterparties go down. If they go down, some of the companies that deal with them go down. And so on. Thus the government made the decision under Bush, Paulson, and Bernanke that AIG had to be propped up. Under Obama, Geithner, Summers, and Bernanke that decision has remained in place.

The only way we can stop propping up AIG is for it to unwind the deals that tie it so tightly to the rest of the financial universe. As AIG makes clear in its Retention Policy, it is doing just that:

The team that remains at AIGFP has made significant progress in bringing down the risks and winding down the portfolio. ... They have focused initially on reducing complex and difficult to manage positions...

I don’t know exactly what winding down a portfolio requires at AIGFP but I’ve seem linked deals that run into the hundreds of transactions. Getting those unwound is much easier if the people doing the unraveling were around when the web was woven. It is the desire to retain this type of expertise that prompted AIG to offer retention bonuses in the first place. If AIG loses the people who know the business best, it will take longer to straighten out the mess.

But, come the screams, these are the very people who got us into the mess. Well, if Maguire is right, not necessarily. The primary bad guy is gone; what’s left are the people who understand what he was doing and can put it right. And even if Maguire is wrong, the AIGFP people are still our best best for digging ourselves out: the ones who built the system are the ones most able to dismantle it.

So here’s the bottom line. The government believes we need AIG up and running in order to avoid pretty much total financial collapse. AIG believes it needs its AIGFP employees up and running in order to wind down its problematic deals as quickly and cleanly as possible. Furthermore, AIG believes it needs its retention bonuses paid now and next year in order to hold onto those employees.

Or to put it the other way around. If - to quote Liddy - the AIGFP employees “believe that their compensation is subject to continued and arbitrary adjustment by the U. S. Treasury”, they will quit. If they quit, it will be more difficult and take longer to unwind the deals that are holding the government hostage to AIG’s continued existence. It seems safe to assume that the longer AIG is in business with unwound toxic deals, the more funding it will need from the government.

And that’s the best case. A worse case is that key employees will leave and the ones who are left - or the new hire replacements - will not only have trouble unwinding the toxic deals, they will have trouble simply managing them. The AIGFP Employee Retention Plan points out the hedging problems this could cause which will result in increased costs requiring - again - more government help. Beyond that, the departure of key personnel can provide an excuse for regulatory agencies of foreign governments to step in. More costs.

And the worst case, of course, is that enough key employees leave to cause enough havoc to simply drive AIG out of business regardless of continued government support.

So the government needs to make a decision. Do they really and truly need AIG up and running to avoid financial disaster? If not, life is simple: shut down the credit lines. That should force AIG out of business almost immediately and then all we have to do is clean up the debris.

If, however, the government truly does need AIG up and running to keep the financial system stable, then they need to realize that AIG needs the employees it is trying to hold onto. And all those in Washington who are currently screaming we need to stop the bonuses - Obama, Summers, Geithner, Frank, Grassley, and everyone else who sees the chance to make some cheap populist points - need to suck it up and find the courage to tell us some unpalatable truths In other words, they need to stop acting like demagogues and start acting like leaders.

Leaders don’t give in to the overwrought arguments of people who don’t know what they’re talking about. Leaders don’t flirt with a financial meltdown because people are yelling at them. Leaders don’t let the lunatics run the asylum.

Instead, leaders use their authority and their credibility to explain the facts of a situation and, sometimes, to say, “Deal with it.” Especially those leaders who pride themselves on being “reality-based”. What Obama and all the rest of them need to say is something like this:

We’ve made the decision that keeping AIG running is essential to economic stability. We think Edward Liddy is the best man to accomplish that. Mr. Liddy has explained that he needs to hold onto the AIGFP employees in order to wind down the toxic part of the business. In order to do that, AIG needs to pay them the money they were promised a year ago. I understand you don’t like it. However, in our judgment this is the best course of action to take to keep things from collapsing completely.

Furthermore, this sort of issue has come up before and will come up again. There are some business practices - like retention bonuses, like awarding top sales people - that seem out of line in businesses that have received government - your - money and we certainly should be on the lookout for waste. However, it is to everyone’s benefit if the businesses that received government money become successful enough to pay that money back. No one in the Administration - no one in Congress - knows as much about running those businesses as the current executives. We’re all going to have to accept that some of the things that make us angry are essential to returning those firms to profitability. The more the government micromanages business decisions, the harder it will be for the companies to get back on their feet and pay us all the money they owe us.

Unfortunately, even in the unlikely event our leaders in Washington find their courage, it may already be too late. AIG employees know the government doesn’t want them to get their bonuses. They’ve got to figure that even if the government can’t block this round of bonuses there are a lot of politicians working overtime to figure out how to take the money back - and they’re willing to gut the Constitution to do it. Regardless of whether that succeeds the employees have to know the government will be working overtime to block the retention bonuses that are supposed to be paid at the end of 2009. And if all that is not enough to convince the employees to quit, maybe the death threats will do the job.

If I worked for AIG, I’d take whatever bonus money I got, cash the check, and move far, far away. We better all hope the AIG employees are a lot tougher than I am. Failing that, we’d better hope that either the government was wrong when it decided keeping AIG up and running was essential to avert disaster or that Liddy was wrong when he insisted he needed to hold onto his employees to get the job done. Otherwise, I sure hope all the politicians who drive the employees out of AIG know how to unwind derivative deals.