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Wednesday, September 21, 2011

Wealth and Taxes

For some reason there is all this hullabaloo about the rich not paying their fair share. Warren Buffett claims that his secretary is paying a higher percentage of her income in taxes than he is, which to me  raises the question: what is Warren paying his secretary?

But for some reason, while the issue is framed as the rich and their share of taxes, the focus is not on wealth but on income. As anyone who deals with wealth knows, income and wealth are two very different things.

Take Warren Buffett as an example. If he did not earn anything for a year, or several years, or for the next century, it would not matter to him because it’s not his income but his wealth that would allow him to spend a million dollars a year for the next four hundred years without running out of money. On the other hand, his secretary would probably have a serious problem is she wasn’t paid on time.

So why this focus on income rather than wealth? Well, the first thing is that it’s a habit. Since the income tax was enacted in the early part of the 20th century, it’s income that has been taxed, not wealth. Income is a substitute measure of wealth, in financial terms it’s a derivative of wealth. Rich people are assumed to have higher incomes than poor people, and in most cases that’s true. But when we’re talking about taxing the wealthy like Warren Buffet, why are we talking about Warren’s income rather than his thirty-nine billion dollar net worth versus his secretary’s …. what? What is Warren’s secretary worth? We’re never told. It doesn’t matter. For some reason, the focus is on Warren’s income (which he can set and zero and still afford a private jet) rather than his wealth.

If we are seriously going to discuss taxing the wealthy, how about talking about a tax on wealth rather than income? It is estimated that America’s private wealth (stock and housing) is about $50 trillion dollars. Suppose we forget about taxing income, and tax wealth instead. If we set a wealth tax at 5%, that would generate about $2.5 trillion in revenue for the government (more than enough to keep the essential services going). And Warren Buffett’s share of that would be about $1.8 billion (using a net worth of $40 billion) almost certainly more than he’s paying now, and we would not have to endure his annual haranguing about paying less than his secretary.

If we’re going to tax the wealthy, let’s tax the wealthy rather than those trying to become wealthy via earning a lot. It’s only fair way to get Warren Buffet to pay his fair share.

Is it fair? Sure. According to Wikipedia, the wealthiest 25% of households own 87% of the country’s wealth while the bottom quartile held no net wealth at all. That means the poor person who rents his apartment and has no savings could work without paying any taxes at all while Warren Buffet pays $1.8 billion and Bill Gates pays about $3 billion (on wealth of about $59 billion). What could be fairer than that? Rich fat cats could no longer wriggle out of paying taxes by getting all their income via tax free bonds or paying a low capital gains tax rate. People could buy or sell their stocks or homes without having to worry about the tax consequences.

You may well ask what would the elderly homeowner do who has a million dollar home but not enough income to pay his tax? Well, it could spur the sale of that home, or pass it on to the next generation. The fact is, it’s not very different now when house-poor homeowners are forced to sell became of ever increasing property taxes. People have learned to cope with today’s tax framework. I know of many people who own highly appreciated stock that they’re holding on to even if it doesn’t produce income because of the gain-of-basis-on-death rule. Taxing asset value rather than income would eliminate many of the counterproductive decisions people make to take advantage of today’s complex tax rules.

A final benefit of taxing wealth is that most people do not realize what they are paying in taxes because of withholding. A wealth tax that is paid annually would bring home that gargantuan amount of our national wealth the government consumes. It would bring about a revolution in people’s minds about how our money is being taken and how it’s being wasted.

Let’s give Warren Buffett what he wants: let’s tax the wealthy by taxing their wealth.

1 comment:

Tom Cabanski said...

Yes, I pay tons of income tax and it has forced me to layoff an employee or two in tough times that I could have kept if my company did not have to pay 35% tax on "profit" also known as the money I use to operate the company in the 1st quarter of the next year. Yes, I am fighting against raising income taxes on those that already carry most of the taxation burden. Yes, I think Buffet is happy enough to see income taxes rise as his income really means nothing when compared to his wealth. Even so, a wealth tax is a horrible idea.

If there was a wealth tax, I would move all my wealth offshore instead of the 10% or so I currently have invested in Thailand. That would mean closing my business and laying off the highly-paid programmers that work for me. I'm betting that most of the wealthy would make the same choice. Imagine the exodus of capital and the resulting 25% unemployment. Just what we needed!