Skip to main content

Zuck never has to pay taxes again

By Edward J. McCaffery, Special to CNN
April 9, 2013 -- Updated 1150 GMT (1950 HKT)
Facebook CEO Mark Zuckerberg introduces the company's new
Facebook CEO Mark Zuckerberg introduces the company's new "Graph Search" tool at a press event in California.
STORY HIGHLIGHTS
  • Mark Zuckerberg will pay between $1 billion and $2 billion in taxes for 2012
  • Edward McCaffery: But he never has to pay taxes again for the rest of his life
  • He says Zuckerberg can hold on to assets as they appreciate without paying tax on them
  • McCaffery: Like other tech titans, he can build wealth by using stock and stock options

Editor's note: Edward J. McCaffery is Robert C. Packard Trustee Chair in law and a professor of law, economics and political science at the University of Southern California. He is the author of "Fair Not Flat: How to Make the Tax System Better and Simpler."

(CNN) -- So, you think you have it bad this tax season. Have you heard that Facebook founder Mark Zuckerberg will pay between $1 billion and $2 billion in taxes? That sounds like a tough pill for anyone to swallow.

But it is premature to start a pity party for Zuckerberg. The twenty-something billionaire reaped large financial gains from exercising the stock options that triggered his tax bill, and he has benefited from favorable tax rules along the way. Even better, Zuckerberg will survive his encounter with the tax man in a position to never have to pay taxes again for the rest of his life.

You heard that right.

Edward J. McCaffery
Edward J. McCaffery

Let's start with the tax bill. According to media reports, Zuckerberg reported $2.3 billion income from Facebook's IPO in May 2012. How did that happen?

By contract with his own highly controlled company, Zuckerberg has many stock options. The options give him the right to buy shares for a preset price: 6 cents, to be exact. So on the day of Facebook's IPO, with shares trading as high as $42, Zuckerberg bought 60 million shares for 6 cents each: a great way to net a cool $2.3 billion.

Become a fan of CNNOpinion
Stay up to date on the latest opinion, analysis and conversations through social media. Join us at Facebook/CNNOpinion and follow us @CNNOpinion on Twitter. We welcome your ideas and comments.



The IRS views that money as compensation -- wages -- taxable at "ordinary" income tax rates, the same that most of us pay on our regular salaries. This means, for 2012, Zuckerberg will have to pay tax on the $2.3 billion at close to a 50% rate, federal and California taxes combined. The resulting whopping $1 billion to $2 billion tax bill continues a theme, evident in my CNN.com columns on Warren Buffett, Mitt Romney and Phil Mickelson, that wage-earners are highly taxed, but not the wealthy.

So should we feel sorry for Zuckerberg? Before we start crying, let's step back a bit.

As soon as Zuckerberg exercises any of his stock options he triggers a tax hit. He did just that when he bought the 60 million Facebook shares for 6 cents each. But from that moment forward, Zuckerberg is responsible only for any further rise in the value of the stock, and only when he sells it, and, even then, only at the far more favorable "capital gains" rates.

Zuckerberg's $2.3 billion payday also came after years of building up value in Facebook, meaning that he was deferring paying taxes for years. This is considered a financial benefit: It is better to pay taxes later rather than sooner, all things being equal.

Zuckerberg to pay $2 billion in taxes

It also bears mention that all things were not equal, because 2012 featured one of the lowest top ordinary tax rates in a century of income taxes, at 35%. Most observers were assuming that rates would increase in 2013, as they in fact did. Zuckerberg cashed out at both a high market price and a low tax rate.

One puzzle to tax experts is why Zuckerberg waited so long to cash out, causing that large ordinary income tax hit. The answer likely has several parts. One, Zuckerberg's timing almost certainly played a role in boosting Facebook's stock price at the IPO stage, when it peaked. Two, it is obvious that Zuckerberg had indeed cashed out, in large part, before the IPO. How else did he get to a net worth of more than $11 billion, according to media reports, with a (mere) $2.3 billion payday, roughly cut in half by taxes, further reduced by a falling stock price?

At a minimum, buying shares during the IPO allowed Zuckerberg to cash out at the market top, and then to sell off shares -- as he did "for tax purposes" -- without any additional tax hit. Indeed, Zuckerberg now holds shares with tax losses built into them, which he can sell to offset capital gains elsewhere in his portfolio.

Zuckerberg also has plenty of other shares (and still more options), rising in value as we speak. He is playing what I call Tax Planning 101, simply holding onto assets as they appreciate without paying tax on them.

Zuckerberg's tale is really just another story about stock options, the coin of the realm in Silicon Valley. They can be tricky and easy to manipulate. Remember the backdating scandals? Those were about the timing of the exercise of stock options by highly paid executives.

After his big stock option exercise, Zuckerberg can walk in the footsteps of hi-tech icons such as Bill Gates and Steve Jobs. These entrepreneurs built up vast fortunes using stock options with great savvy and then, after they made it to the levels of the super-rich, simply got rid of their ordinary income salaries.

Jobs, famously, got paid $1 a year to run Apple. Gates one-upped that by stepping down altogether from his day job as CEO of Microsoft. The really rich leave wages and the W-2s that go with them to the little people, like us.

The truly rich do not have to pay any tax once they have their fortunes in hand. They can follow the simple tax planning advice to buy/borrow/die: Buy assets that appreciate in value without producing cash (like shares of Internet stocks), borrow to finance lifestyle, and die to pass on a "stepped up" basis to heirs wherein the tax gain miraculously disappears.

Zuckerberg now has $11 billion or more with which to play this game. He can live off money borrowed against that huge sum (rest assured, he can get good interest rates), never having to sell any asset at a gain, and never having to get an "ordinary" salary again.

As is so often the case, the real wizard here is Buffett, who got into the game in the early 1960s, buying up a company, Berkshire Hathaway, that pays no dividends. Buffett was able to amass his fortune, well north of $50 billion, without ever incurring a tax bill nearly as large as Zuckerberg's.

We cannot all be Warren Buffetts, of course, but being Mark Zuckerberg isn't too shabby, even with that more than a billion dollar tax bill coming due. Zuckerberg can rest peacefully knowing he won't have to worry about paying taxes again. The rest of us aren't quite so blessed.

Follow @CNNOpinion on Twitter.

Join us at Facebook/CNNOpinion.

The opinions expressed in this commentary are solely those of Edward J. McCaffery.

ADVERTISEMENT
Part of complete coverage on
December 27, 2014 -- Updated 0127 GMT (0927 HKT)
The ability to manipulate media and technology has increasingly become a critical strategic resource, says Jeff Yang.
December 26, 2014 -- Updated 1617 GMT (0017 HKT)
Today's politicians should follow Ronald Reagan's advice and invest in science, research and development, Fareed Zakaria says.
December 26, 2014 -- Updated 1319 GMT (2119 HKT)
Artificial intelligence does not need to be malevolent to be catastrophically dangerous to humanity, writes Greg Scoblete.
December 26, 2014 -- Updated 1505 GMT (2305 HKT)
Historian Douglas Brinkley says a showing of Sony's film in Austin helped keep the city weird -- and spotlighted the heroes who stood up for free expression
December 26, 2014 -- Updated 1303 GMT (2103 HKT)
Tanya Odom that by calling only on women at his press conference, the President made clear why women and people of color should be more visible in boardrooms and conferences
December 27, 2014 -- Updated 2327 GMT (0727 HKT)
When oil spills happen, researchers are faced with the difficult choice of whether to use chemical dispersants, authors say
December 25, 2014 -- Updated 0633 GMT (1433 HKT)
Danny Cevallos says the legislature didn't have to get involved in regulating how people greet each other
December 23, 2014 -- Updated 2312 GMT (0712 HKT)
Marc Harrold suggests a way to move forward after the deaths of NYPD officers Wenjian Liu and Rafael Ramos.
December 24, 2014 -- Updated 1336 GMT (2136 HKT)
Simon Moya-Smith says Mah-hi-vist Goodblanket, who was killed by law enforcement officers, deserves justice.
December 24, 2014 -- Updated 1914 GMT (0314 HKT)
Val Lauder says that for 1,700 years, people have been debating when, and how, to celebrate Christmas
December 23, 2014 -- Updated 2027 GMT (0427 HKT)
Raphael Sperry says architects should change their ethics code to ban involvement in designing torture chambers
December 24, 2014 -- Updated 0335 GMT (1135 HKT)
Paul Callan says Sony is right to call for blocking the tweeting of private emails stolen by hackers
December 23, 2014 -- Updated 1257 GMT (2057 HKT)
As Christmas arrives, eyes turn naturally toward Bethlehem. But have we got our history of Christmas right? Jay Parini explores.
December 23, 2014 -- Updated 0429 GMT (1229 HKT)
The late Joe Cocker somehow found himself among the rock 'n' roll aristocracy who showed up in Woodstock to help administer a collective blessing upon a generation.
December 23, 2014 -- Updated 2115 GMT (0515 HKT)
History may not judge Obama kindly on Syria or even Iraq. But for a lame duck president, he seems to have quacking left to do, says Aaron Miller.
December 23, 2014 -- Updated 1811 GMT (0211 HKT)
Terrorism and WMD -- it's easy to understand why these consistently make the headlines. But small arms can be devastating too, says Rachel Stohl.
December 22, 2014 -- Updated 1808 GMT (0208 HKT)
Ever since "Bridge-gate" threatened to derail Chris Christie's chances for 2016, Jeb Bush has been hinting he might run. Julian Zelizer looks at why he could win.
December 20, 2014 -- Updated 1853 GMT (0253 HKT)
New York's decision to ban hydraulic fracturing was more about politics than good environmental policy, argues Jeremy Carl.
December 20, 2014 -- Updated 2019 GMT (0419 HKT)
On perhaps this year's most compelling drama, the credits have yet to roll. But we still need to learn some cyber lessons to protect America, suggest John McCain.
December 22, 2014 -- Updated 2239 GMT (0639 HKT)
Conservatives know easing the trade embargo with Cuba is good for America. They should just admit it, says Fareed Zakaria.
December 20, 2014 -- Updated 0112 GMT (0912 HKT)
We're a world away from Pakistan in geography, but not in sentiment, writes Donna Brazile.
December 19, 2014 -- Updated 1709 GMT (0109 HKT)
How about a world where we have murderers but no murders? The police still chase down criminals who commit murder, we have trials and justice is handed out...but no one dies.
December 18, 2014 -- Updated 2345 GMT (0745 HKT)
The U.S. must respond to North Korea's alleged hacking of Sony, says Christian Whiton. Failing to do so will only embolden it.
December 19, 2014 -- Updated 2134 GMT (0534 HKT)
President Obama has been flexing his executive muscles lately despite Democrat's losses, writes Gloria Borger
ADVERTISEMENT