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News & ArtsTuesday, January 24, 2012
2012 / Money / Economy Unearned Income Inequality
Posted by Goldy on Tue, Jan 24, 2012 at 12:07 PM
- Washington Budget & Policy Center
One further thought on unearned income, and the economic consequences of taxing it at a lower rate. After decades of fast growing income inequality, our nation's top one percent of households now rake in 24 percent of all income, a rate decried by critics as obscene and unsustainable. Yet that disparity is nothing compared to unearned income, where the wealthiest one percent enjoy over 75 percent of all income from capital gains.
As can be seen from the above chart, this preferred rate on capital gains is one that almost exclusively benefits the wealthiest Americans. But whether you think this is fair or productive or not is beside the point. This policy of cutting tax rates on the income of our wealthiest Americans, at the same time income inequality exponentially grows, means that an ever larger portion of our economy is being taxed at an ever lower rate, significantly contributing to federal budget deficits. And with larger deficits come larger spending cuts, disproportionately impacting, you guessed it, those lower and middle income families whose incomes have remained flat for decades, even as the wealthy prospered.
This is redistribution of wealth, plain and simple. Though not in the direction most folks generally infer from the phrase.
All the more reason to levy a capital gains tax here in Washington state, to help fend off further cuts to education, healthcare, and other essential services.
1
I don’t like these “further thought” posts Goldy. There is a perfectly good comment thread going on covering all this in your first post. You really didn’t add all that much in this post and it just bloats Slog and pushes an interesting comment thread faster into the archives.
2
Actually, a low tax rate on the rich tends to increase both job exports overseas and capital exports overseas.
Best resolution is the use of armed drones when income tax avoidance by millionaires is discovered, unless they pay up before the drones find them.
Best resolution is the use of armed drones when income tax avoidance by millionaires is discovered, unless they pay up before the drones find them.
4
goldy, i'm w/ you on this and other related issues, but this is by far (imo) your best & clearest argument put forth on the topic.
6
A lot of this stuff is undoubtedly true, but I'd like to address the matter of corporate profits and taxation before worrying about individual income tax, even for the 0.1%. I'd like Congress and the President to ban corporate tax breaks, and to require income tax from EVERY corporation that does business here, regardless of where in the world they are incorporated. If they're "people," THOSE are the ones getting away with tax-free murder.
Believe me, if the wealthiest Americans are living on dividends, this will narrow the gap between rich and poor fast, as well as take a big bite out of the deficit.
Believe me, if the wealthiest Americans are living on dividends, this will narrow the gap between rich and poor fast, as well as take a big bite out of the deficit.
7
"an ever larger portion of our economy is being taxed at an ever lower rate"
Short and sweet, but really explains the problem.
Short and sweet, but really explains the problem.
8
Several commenters on the previous post argued for lower taxes on capgains in order to actively encourage savings. The standard economist's view actually goes further: it is that zero capgains taxes are savings-neutral; any taxes at all on capgains are actually actively savings-discouraging.
The interest rate gives the time value of money. If the interest rate is 10%/year, then spending $110 next year has the same net present value (NPV) as spending $100 this year. Suppose person A earns $1000 this year, pays 20% income tax on it and spends the remaining $800; A has paid $200 in tax and enjoyed $800 in consumption. Suppose person B also earns $1000 this year, pays the same 20% income tax on it, then spends only $400 and saves the remaining $400. Next year he has $440 dollars, and if he owes no tax on the $40 capgains, he will get to spend all $440, which in NPV terms is the same as $400 the previous year, so he will have got to consume just as much as person A. If he owes any taxes on the $40 capgains at all, person B will get to consume less in NPV terms than person A.
Don't believe that NPV is the right measure of the time value of money? Then please send me any amount of money you like and I will be happy to return the entire sum to you a decade hence.
The interest rate gives the time value of money. If the interest rate is 10%/year, then spending $110 next year has the same net present value (NPV) as spending $100 this year. Suppose person A earns $1000 this year, pays 20% income tax on it and spends the remaining $800; A has paid $200 in tax and enjoyed $800 in consumption. Suppose person B also earns $1000 this year, pays the same 20% income tax on it, then spends only $400 and saves the remaining $400. Next year he has $440 dollars, and if he owes no tax on the $40 capgains, he will get to spend all $440, which in NPV terms is the same as $400 the previous year, so he will have got to consume just as much as person A. If he owes any taxes on the $40 capgains at all, person B will get to consume less in NPV terms than person A.
Don't believe that NPV is the right measure of the time value of money? Then please send me any amount of money you like and I will be happy to return the entire sum to you a decade hence.
9
@8,
I'd love to find an interest rate that's 10 percent. Where do you bank?
Also, the paltry 2 percent interest rate I get on my savings is taxed as regular income. And, how do economists account for the NPV of average Americans who get no raises (i.e. pay cuts) year after year for actually working while they meanwhile pay the same tax rates?
I'd love to find an interest rate that's 10 percent. Where do you bank?
Also, the paltry 2 percent interest rate I get on my savings is taxed as regular income. And, how do economists account for the NPV of average Americans who get no raises (i.e. pay cuts) year after year for actually working while they meanwhile pay the same tax rates?
10
@8,
It's also precious how you conflate interest rates (which rarely, if ever, keep pace with inflation) with capital investments (which historically outpace inflation, meaning that investors are getting back a hell of a lot more than they put in).
It's also precious how you conflate interest rates (which rarely, if ever, keep pace with inflation) with capital investments (which historically outpace inflation, meaning that investors are getting back a hell of a lot more than they put in).
11
With regard to my comment @8, let me point out that even Paul Krugman accepts that part of the argument. He writes:
There is it from the mouth of the progressive oracle himself: capgains taxes are double taxation.
Now of course, he still does want to tax capgains, not to enforce fairness (the argument above wipes out that notion) but because he values "making tax collection as simple and efficient as possible".
Look, you can, like Goldy, favor higher capgains taxes because they happen to fall mostly on the rich and you want more of their money. You can, like Krugman, favor higher captains taxes because it makes the tax code simpler. But you can't favor capgains taxes because it you want to treat the income of savers and spenders equally; to do that you would need to have zero capgains taxes.
by taxing investment income as ordinary income, we effectively discourage saving: if you spend your income now, you pay taxes only once, while if you invest for the future, you pay taxes twice
There is it from the mouth of the progressive oracle himself: capgains taxes are double taxation.
Now of course, he still does want to tax capgains, not to enforce fairness (the argument above wipes out that notion) but because he values "making tax collection as simple and efficient as possible".
Look, you can, like Goldy, favor higher capgains taxes because they happen to fall mostly on the rich and you want more of their money. You can, like Krugman, favor higher captains taxes because it makes the tax code simpler. But you can't favor capgains taxes because it you want to treat the income of savers and spenders equally; to do that you would need to have zero capgains taxes.
12
@11: That was the most dishonest way to take a quote out of context that I have seen in a long time. Here's the full quote, you cockmongler.
See, if you read the whole damn thing, Krugman is actually arguing THE EXACT OPPOSITE of what you're trying to prove. Congratulations, Wright; you just lost the debate.
Let me leave the distributional issues on one side; even if we don’t care (or neglect for the moment) the fact that low capital gains taxes overwhelmingly benefit a tiny minority, and leave us having to raise more taxes from everyone else, there are still good arguments against this preferential treatment.(bolding mine)
So, the case for low rates on capital gains is that by taxing investment income as ordinary income, we effectively discourage saving: if you spend your income now, you pay taxes only once, while if you invest for the future, you pay taxes twice, so eat, drink, and be merry.
There is, however, no evidence that this effect is at all important.
Meanwhile, by taxing income at very different rates depending on how it manifests itself, we create huge incentives to manipulate income to make it come out in the favored form. And this has real economic costs.
See, if you read the whole damn thing, Krugman is actually arguing THE EXACT OPPOSITE of what you're trying to prove. Congratulations, Wright; you just lost the debate.
13
venomlash @12, You really got David Wright @11 by the balls, making a lie of omission that is worth of the Seattle Times editorial board. Squeeze hard.
14
This chart is a little misleading; even though I am thoroughly against the so-called unearned income (investments do serve a societal benefit after all). Anywho, the share of capital gains should be normalized by amount of money in the market; otherwise, this is the same ol chart not imparting any new information.
15
@9-10: Thanks for responding.
I chose a 10%/year interest rate to make the calculations easy. The actual number is irrelevent to the argument. A realistic choice for a 1-year delay in consumption would be the 1-year T-bill rate, which is currently 0.12%/year, so your savings account is doing quite well.
The reason interst on savings accounts is treated as ordinary income is presumably that they are typically demand deposit accounts, so it would be quite hard to determine what part of the interest qualifies for the "held longer than 1 year" requirement that an asset must meet in order to qualify for the lower capgains rate. If this is an issue for you, I encourage you to buy bonds directly from treasury.gov; you can do it online, they charge no broker fees, and if you hold them for longer than a year you will get the capgains tax rate.
My simple story does indeed ignore inflation, but if you add it in you will see that it is yet another advantage to the consumer over the saver. A $40 capgain might well be a real loss if it was earned on an asset that lost $50 in value to inflation over the holding period, and yet the saver must still pay capgains taxes on that $40. A person who doesn't save at all will never take any hit from inflation.
I chose a 10%/year interest rate to make the calculations easy. The actual number is irrelevent to the argument. A realistic choice for a 1-year delay in consumption would be the 1-year T-bill rate, which is currently 0.12%/year, so your savings account is doing quite well.
The reason interst on savings accounts is treated as ordinary income is presumably that they are typically demand deposit accounts, so it would be quite hard to determine what part of the interest qualifies for the "held longer than 1 year" requirement that an asset must meet in order to qualify for the lower capgains rate. If this is an issue for you, I encourage you to buy bonds directly from treasury.gov; you can do it online, they charge no broker fees, and if you hold them for longer than a year you will get the capgains tax rate.
My simple story does indeed ignore inflation, but if you add it in you will see that it is yet another advantage to the consumer over the saver. A $40 capgain might well be a real loss if it was earned on an asset that lost $50 in value to inflation over the holding period, and yet the saver must still pay capgains taxes on that $40. A person who doesn't save at all will never take any hit from inflation.
16
Venomlash@12: If you would read my comment, you would see that I was quite honest about Krugman's ultimate conclusion. I said "of course, he still does want to tax capgains" and I quoted his justification of "making tax collection as simple and efficient as possible". My point isn't that he favors zero capgains taxes, it is that he accepts that the equal-treatment-of-income justification is false. And I stand by that characterization of his views.
17
David @16, No, you wrote that "even Paul Krugman accepts that part of the argument," when in fact he laid that out as what some would argue, and then followed by writing that there is "no evidence that this effect is at all important."
You completely took him out of context.
You completely took him out of context.
18
Goldy @17: I take "there is no evidence that this effect is at all important" to mean "even though we are double-taxing this income, it doesn't appear to have much effect on savings behavior". Whether or not the double taxation has a strong disencentive effect is a completely different question as to whether or not it is, in fact, double taxation.
I understand the view, presuably shared by you, Krugman, and most progressives, that we should keep squeezing any given taxpayer until we aren't getting much more juice out of him. I am just asking you to recognize that that is a completely different point from the point at which his squeezing is equal to some other given taxpayer's. The equal-treatment-of-income-sources principal is about the second question, not the first.
I understand the view, presuably shared by you, Krugman, and most progressives, that we should keep squeezing any given taxpayer until we aren't getting much more juice out of him. I am just asking you to recognize that that is a completely different point from the point at which his squeezing is equal to some other given taxpayer's. The equal-treatment-of-income-sources principal is about the second question, not the first.
19
@18: You should quit while most of us here just think you're a douche. I happen to think you're a lying fucktwit greedhead motherfucker, but that's just me, so far.
20
Sorry, not getting how capital gains taxes amount to 'double taxation' no matter how many right wingers repeat that argument. Do you imagine repeating it is going to make it true? You are taxed on your income, you invest some and you make more income off of that. You are not taxed again on the same income you are taxed on the profits from investing it.
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Rhizone @20: Please read the detailed explanation @8 and explain where you disagree with it. The key point is that your profit does not exist in a NPV sense, and NPV is the accepted way to make cross-time spending comparisons. I continue to assert that, whatever other reasons some of them may have for wanting to tax capgains, most economists, including left-wing economists, accept this NPV analysis.
22
@21: A capital gains tax doesn't tax the money twice. You pay taxes on the initial investment, and the CGT only taxes your profit.
23
@21 Your argument may be an attempt to prove with a pure abstraction that taxing capital gains provides a disincentive to invest but it doesn't in the least prove your assertion that double taxation is occurring when capital gains are taxed. As for the alleged disincentive exactly how does this apply to reality? How many of the fabulously wealthy are going to spend all of their income immediately after concluding that they will somehow end up with less in the future if they invest it instead. What exactly are they going to spend it on? Just about anything other than real estate will depreciate. Investments generally appreciate. Are we supposed to believe that Mitt Romney would blow all his 25 million on fabulous meals and vacations if a higher tax on capital gains made it less lucrative for him to put it into stocks?
24
@21 NPV in your argument is a pure abstraction that leaves out all real notion of "value". Income that you will have next year - without having to work for it! - has a totally different value than goods and services you acquire now, even if you can assign a dollar amount to both. That is why people save, and have always saved, even though there has always been a nonzero tax on unearned income. Because NPV has little to no bearing on actual behavior, it is clearly not measuring anything of importance to this question. People value future income more than the tax rate they pay on it; at some tax rate they won't, but there's no evidence that if it's taxed the same as earned income there would be any actual decrease in savings.
25
PGrahm@24: Thank you so much for your considered response. You are the first commenter who I felt actually understood and engaged with my argument. (Yes, I do understand that you do not agree with its moral or economic calculus.)
With regard to people's actual responses to incentives for saving and consumption, you might be interested in Mankiw's saver/spender model, which manages to explain several observed macroeconomic phenomenon by postulating that the population consists of two types of people: those who respond "rationally" to savings incentives and those who immediately spend everything they get.
With regard to people's actual responses to incentives for saving and consumption, you might be interested in Mankiw's saver/spender model, which manages to explain several observed macroeconomic phenomenon by postulating that the population consists of two types of people: those who respond "rationally" to savings incentives and those who immediately spend everything they get.
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