The Sinema negotiation on the Orwellian named Inflation Reduction Act levies a tax on stock buybacks.

As Tyler Cowen notes it is a tax on capital, a bad idea in neutral times and a worse idea in a recession or whatever you choose to call a multi period decline in GDP.

Historically buybacks were a good idea when a) the stock market price of a company is low and b) when the company has generated more cash than it can prudently deploy.  Cash can be deployed either with dividends when it is a consistent and predictable flow or buybacks or special dividend when the surge in cash holdings is deemed less predictable.  Buybacks compared to special dividends gives more discretion to the shareholders.  The market is not tolerant of inconsistent dividend policy.

Some companies use excessive cash to buy unrelated businesses and often these have turned out bad. When a company buys back shares they buy it from shareholders who willingly sell their shares to deploy their capital elsewhere. When they sell their shares the gain is subject to taxes, so it is not like a buyback generates no tax revenues (unless the shares are sold by non taxable endowments or non profits).

Taxing buybacks is an incentive for large companies to get larger, hoarding cash or to make bad investments. It seems much more prudent to let shareholders keep their shares if they wish for longer term benefit and let those cash out if it suits their individual circumstances.  Buybacks are just another form of free flowing capital which should be encouraged.

Buybacks are criticized as a tool executives use to boost their bonuses. Theoretically when executive bonuses are contingent on the stock price this can be true, but such decisions are rarely made by a single executives.  Warren Buffett is critical of such bonus plans but they are common. I also oppose an executive reward based on stock price, but this concern is vastly outweighed by the benefits of free capital flows.

There are other means to address concerns of excess CEO compensation which Warren Buffett addressed here and here.

Sinema’s buyback tax only makes a terrible bill much worse.

 

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