REEXAMINING INTERNAL REVENUE CODE SECTION 162(M): BONUS-PERFORMANCE SENSITIVITY ANALYSIS

Abstract

This paper examines the effects of Internal Revenue Code Section 162(m) on CEO bonus payout, with an emphasis on the sensitivity of bonuses to firm performance. This paper seeks to address the changes of the IRS guidance in compliance and the non-regulatory factors that significantly influence the behavior of the target-firms. As such, I propose an approach to examine the immediate and long term effects of the tax provision. I document that the target-firms show an increased sensitivity of CEO bonus payout to stock-price-based performance (measured by stock return) in the short-term, and an enhanced association between CEO bonus payout and accounting-earnings-based performance (measured by return on assets) in the long-term.