Tesla struggles to avoid the high cost of paying Elon Musk

Tesla has vowed to continue its fight to restore Elon Musk’s record salary, and failure may have a high price: the possibility of more than $100bn in taxes and audits for the company and its CEO.

Delaware Judge Kathaleen McCormick recently rejected the electric car manufacturer’s second attempt to give Musk the largest package of valuable options in history – worth $56bn at the time of the original decision and more than $129bn at the current price. He found that the majority vote of the shareholders to re-approve the grant did not exceed his previous rejection of the 2018 contract as unfair and given by the board with pleasure to their CEO.

His position leaves the court with a quandary: pursue a long and uncertain appeal to the Delaware Supreme Court or present his boss with a new package.

If passed with similar terms, the new package could trigger a $50bn bail-out, including corporate capital and set aside a tax of up to 57 per cent on Musk’s shares, leading to higher taxes.

In April, Tesla warned shareholders that the issuance of new options to make Musk to buy the same 304mn shares could result in a dividend of more than $25bn, since the value of the company was much higher than in 2018. This compares to the $2.3bn value of the original award in 2018.

The calculations were based on a share price of $175 on April 1, when Tesla’s market capitalization was $558bn. The stock has more than doubled to $425 giving Tesla a $1.3tn valuation – much of that due to investor interest in Musk’s. new relationship with President-elect Donald Trump – meaning that the accounting value can be increased by the same amount.

Less common are the tax implications Muskwhose net worth recently topped $400bn – the first person to reach that fortune.

If Tesla wins its appeal, which must be filed within 30 days of the Dec. 2 ruling, Musk will pay a flat rate of 37 percent in capital gains tax when he exercises his options in 2018, which he will not be forced to do. until 2028.

If the Supreme Court of Delaware refuses to challenge the original decision and the agency decides to issue a new policy on the same terms, the decisions will already be given “in money”, since the financial goals have already been met.

“It’s easy. If you give options that are ‘in the money’, which is clear now, all kinds of bad things happen,” Schuyler Moore, a tax partner at Los Angeles law firm Greenberg Glusker, told the Financial Times. “That’s why they’re trying so hard to agree to the original deal. If they give this award again now, there will be hell to pay taxes. “

When made in 2018, the stock options depended on the people’s expectations – such as 15 times earnings and 12 times valuation – which Musk achieved by 2023.

At the time the package was issued, the options were “out-of-the-money” and not exercised, so they would have to be exempt from the tax section known as 409A, which governs the payments made.

The law was introduced in 2005 after Enron’s bosses rushed to hand over the money they received as part of the compensation before the company went bankrupt.

McCormick’s decision to cancel Musk’s plan in January restricted his options, which from a tax perspective no longer exist.

Moore said that trying to issue a new contract with the same wording could violate section 409A, which “triggers the immediate taxation of the compensation on the date it is granted, before the compensation becomes taxable under normal laws”.

“To add insult to injury, section 409A would result in an additional 20 percent tax on the amount,” Moore wrote in the popular Tax Notes Federal article. “Damage occurs on the day of treatment.”

This means that Musk will be liable for a 57 percent tax on the difference between the stock price and the current value of the stock, whether he chooses to do so or not. At Wednesday’s closing price of $425 and the stock price of $23.34 set in 2018, the difference would be $122bn, which means about $70bn in tax revenue.

“The issue of tax here is simple. If you give him the same package that does not comply with 409A now, you face an increase in income tax when you receive instead of exercising, and interest on top,” said Bradford Cohen, a tax partner at Jeffer Mangels. Butler & Mitchell. “It could be a very costly, unfortunate mistake.”

Even for Musk, the world’s richest man, this would be impressive. At the beginning of the year 2022, the billionaire wrote on X that “he paid more taxes than ever for a person last year” in response to the message that he owes the US Internal Revenue Service $ 11bn in 2021.

“The only sure way Musk can avoid this is . . . “They will appeal (the decision), as it should be considered null and void,” said Moore. “Many will participate in these efforts.”

Although Musk chose not to use his package during last year’s freedom, “having choices is powerful and valuable”, said Moore, because it acts as a deterrent to consumers or activists. Musk can also borrow against his stock, as long as he doesn’t issue a lien on the options.

The agency has another way to help Musk avoid the 20 percent tax, but it’s expensive. Directors could offer him 304mn Tesla shares worth $129bn at the current price, which would be down 37 per cent, at around $48bn.

When asked about the issue by McCormick at a hearing in August, Tesla’s lawyer suggested that the tax hike would result in Musk receiving a larger package to offset his taxes.

“At the end of the day, as we know how the economy works, you pay him more. If he has the number he wants and he’s being taxed, that’s passed (to the owner),” said Rudolf Koch of Richards, Layton & Finger.

Additionally, if Musk were to flood the market by selling too many stocks at once to pay taxes, it would risk causing the share price to plummet.

The company has to pay accounting fees. And if salary negotiations resume, Musk will not agree to a five-year lock-up period after exercising his inability to sell, which is part of his 2018 package.

Musk also raised the prospect of leaving the electric car maker, and the company said the compensation plan is an important way to keep the multi-billionaire’s commitment.

In January, he wrote on X that he “wasn’t comfortable growing Tesla into a leader in AI and robotics without ~25% voting control” and “unless that’s the case, I’d prefer to do things outside of Tesla”.

Tesla did not immediately respond to a request for comment.