Tobin: CEOs Shouldn’t Use Corporate Treasury as Personal Political Piggy Bank

Posted November 1, 2010 at 11:07am

Recent reports indicate that News Corp., based on the wishes of CEO Rupert Murdoch, contributed $1 million to the Republican Governors Association, and through it, to Ohio gubernatorial candidate John Kasich. This contribution could create legal problems for Murdoch and News Corp. and highlights the need for new regulations of corporate contributions to political campaigns.

[IMGCAP(1)]News Corp.’s contribution sheds light on the significant potential for abuse as powerful CEOs use corporate treasuries as their own private pocket books to make large political contributions to their friends. Such use of corporate funds potentially creates corporate waste and thus violates the CEO’s duty to shareholders and may also violate an executive’s fiduciary duty. Under existing law, corporations may make political contributions, but corporations still have a duty to shareholders to make sure that the contributions are in the best interest of the corporation and its shareholders.

News Corp.’s contribution raises concern because Murdoch reportedly admitted that it did not have a business purpose but was instead to support a friend. When Murdoch was asked about the contribution and how it affected Fox News (which is owned by News Corp.) and its credibility, Politico reports that Murdoch explained: “It doesn’t reflect on Fox News. It had nothing to do with Fox News. The RGA [gift] was actually [a result] of my friendship with John Kasich.”

A corporation can have a business purpose for making a political contribution, and such a contribution would not necessarily violate the executive’s fiduciary duty to the shareholders, but the CEO cannot make a contribution from the corporation that is based solely on the CEO’s friendship with the candidate. CEOs simply cannot use the corporate treasury as a personal piggy bank. Why didn’t Murdoch simply write a check out of his own personal bank account? Why did he have to spend shareholders’ money? The probable answer is that, thanks to the tax code, it is less expensive to donate the money from the corporate treasury.

If the corporation makes the contribution to a non-candidate political organization, such as the RGA, the contribution is made from corporate profits. The tax code prohibits the corporation from deducting the expense as an ordinary necessary business expense, so the tax “cost” of the contribution is the effective tax rate for the corporation. The top tax rate is 35 percent, but the effective tax rate for most corporations is closer to 20 percent.

If Murdoch makes the contribution out of his own funds, the corporation must first pay a 20 percent tax on its profits (same as above). But now, the corporation distributes the profit to shareholders. Shareholders pay 15 percent tax on the dividends. In addition, depending on the executive’s tax situation, he may have to pay state tax and local tax on the dividend. In other words, the executive saves tax by using the corporate treasury instead of his own checking account.

Two problems exist with this scenario.

First, because the tax situation favors donating through the corporation, executives have an incentive to make contributions through their corporations instead of through their own pocket books. The second is that shareholders of the corporation lose out. It is possible that the political contribution promotes the company’s objectives, but it is also possible that the shareholders would have preferred to receive dividends rather than having the CEO contribute the money to his friend.

After Watergate and corporate abuses in the early 1970s, Congress passed the Foreign Corrupt Practices Act. One part of the act prohibits CEOs from using corporate treasuries as their own political war chests. News Corp. and other companies are required to have internal controls to protect against just such abuse. Companies must therefore be careful that they have internal controls in place to ensure that political contributions are in fact made for a business purpose.

The News Corp. donation highlights the need for more controls on corporate political donations. For example, Congress could determine that political donations by corporations are considered constructive dividends to shareholders (a tax that could be paid by the corporation) or could potentially require corporations to pay tax on political contributions at 35 percent instead of at its effective rate. This would somewhat equate the tax situation facing corporations with that of citizens who do not control a corporation (this is especially true for closely held corporations).

Congress could also amend the Foreign Corrupt Practices Act and require shareholder approval before corporations could make political contributions. Finally, Congress or the Securities and Exchange Commission could require that corporations report these contributions on their quarterly reports.

The recent Supreme Court decision in Citizen’s United has created a free-for-all with regard to corporate contributions for political advocacy. The Wild Wild West is now in Washington, D.C. There are few rules and checks on the potential abuse by corporations. However, several first steps — putting corporate donations on par with individual donations and requiring shareholders of corporations to approve any political contribution over a certain amount — will help ensure that corporations are actually operating on behalf of the shareholders and not on behalf of an executive’s friend.

Donald B. Tobin is a professor of law at the Ohio State University Moritz College of Law and is an expert on the intersection of tax and campaign finance laws. Tobin previously worked on Capitol Hill and served in the tax division of the Justice Department.