Tax the Rich!
For three decades we have conducted a massive economic experiment, testing a theory known as supplyside economics. The theory goes like this: Lower tax rates will encourage more investment, which in turn will mean more jobs and greater prosperity—so much so that tax revenues will go up, despite lower rates. The late Milton Friedman, the libertarian economist who wanted to shut down public parks because he considered them socialism, promoted this strategy. Ronald Reagan embraced Friedman’s ideas and made them into policy when he was elected president in 1980.
For the past decade, we have doubled down on this theory of supply-side economics with the tax cuts sponsored by President George W. Bush in 2001 and 2003, which President Obama has agreed to continue for two years.
You would think that whether this grand experiment worked would have been settled after three decades. You would think the practitioners of the dismal science of economics would look at their demand curves and the data on incomes and taxes and pronounce a verdict, the way Galileo and Copernicus did when they showed that geocentrism was a fantasy because Earth revolves around the sun (known as heliocentrism). But economics is not like that. It is not like physics with its laws or arithmetic with its absolute values.
Tax policy is something the Framers left to politics. And in politics, the facts often matter less then who has the biggest bullhorn.
The mad men who once ran campaigns featuring doctors extolling the health benefits of smoking are now busy marketing the dogma that tax cuts mean broad prosperity, no matter what the facts show.
As millions of Americans prepare to file their annual taxes, they do so in an environment of media-perpetuated tax myths. Here are a few points about taxes and the economy that you may not know, to consider as you prepare to file your taxes. (All figures are inflation adjusted.)
1. Poor Americans do pay taxes.
Gretchen Carlson, the Fox News host, said last year, "47 percent of Americans don’t pay any taxes." John McCain and Sarah Palin both said similar things during the 2008 campaign about the bottom half of Americans.
Ari Fleischer, the former Bush White House spokesman, once said, "50 percent of the country gets benefits without paying for them."
Actually, they pay lots of taxes—just not lots of federal income taxes.
Data from the Tax Foundation shows that in 2008, the average income for the bottom half of taxpayers was $15,300.
This year the first $9,350 of income is exempt from taxes for
singles and $18,700 for married couples, just slightly more than in
2008. That means millions of the poor do not make enough to owe income
taxes.
But they
still pay plenty of other taxes, including federal payroll taxes.
Between gas taxes, sales taxes, utility taxes and other taxes, no one
lives tax free in America.
When
it comes to state and local taxes, the poor bear a heavier burden than
the rich in every state except Vermont, the Institute on Taxation and
Economic Policy calculated from official data. In Alabama, for example,
the burden on the poor is more than twice that of the top 1 percent. The
one-fifth of Alabama families making less than $13,000 pay almost 11
percent of their income in state and local taxes, compared with less
than 4 percent for those who make $229,000 or more.
2. The wealthiest Americans don’t carry the burden.
This is one of those oft-used canards. Senator
Rand Paul, the Tea Party favorite from Kentucky, told David Letterman
recently that "the wealthy do pay most of the taxes in this country."
The
Internet is awash with statements that the top 1 percent pays,
depending on the year, 38 percent or more than 40 percent of taxes.
It’s
true that the top 1 percent of wage earners paid 38 percent of the
federal income taxes in 2008 (the most recent year for which data is
available). But people forget that the income tax is less than half of
federal taxes and only one-fifth of taxes at all levels of government.
Social
Security, Medicare and unemployment insurance taxes (known as payroll
taxes) are paid mostly by the bottom 90 percent of wage earners. That’s
because, once you reach $106,800 of income, you pay no more for Social
Security, though the much smaller Medicare tax applies to all wages.
Warren Buffett pays the exact same amount of Social Security taxes as
someone who earns $106,800.
3. In fact, the wealthy are paying less taxes.
The
Internal Revenue Service issues an annual report on the 400 highest
incometax payers. In 1961, there were 398 taxpayers who made $1 million
or more, so I compared their income tax burdens from that year to 2007.
Despite
skyrocketing incomes, the federal tax burden on the richest 400 has
been slashed, thanks to a variety of loopholes, allowable deductions and
other tools. The actual share of their income paid in taxes, according
to the IRS, is 16.6 percent. Adding payroll taxes barely nudges that
number.
Compare
that to the vast majority of Americans, whose share of their income
going to federal taxes increased from 13.1 percent in 1961 to 22.5
percent in 2007.
(By the way, during seven of the eight Bush years, the IRS report on the top 400
taxpayers was labeled a state secret, a policy that the Obama
administration overturned almost immediately after his inauguration.)
4. Many of the very richest pay no current income taxes at all.
John
Paulson, the most successful hedge fund manager of all, bet against the
mortgage market one year and then bet with Glenn Beck in the gold
market the next. Paulson made himself $9 billion in fees in just two
years. His current tax bill on that $9 billion? Zero.
Congress lets hedge fund managers earn all they can now and pay their taxes years from now.
In
2007, Congress debated whether hedge fund managers should pay the top
tax rate that applies to wages, bonuses and other compensation for their
labors, which is 35 percent. That tax rate starts at about $300,000 of
taxable income; not even pocket change to Paulson, but almost 12 years
of gross pay to the median-wage worker.
The
Republicans and a key Democrat, Senator Charles Schumer of New York,
fought to keep the tax rate on hedge fund managers at 15 percent,
arguing that the profits from hedge funds should be considered capital
gains, not ordinary income, which got a lot of attention in the news.
What
the news media missed is that hedge fund managers don’t even pay 15
percent. At least, not currently. So long as they leave their money,
known as "carried interest," in the hedge fund, their taxes are
deferred. They only pay taxes when they cash out, which could be decades
from now for younger managers. How do these hedge fund managers get
money in the meantime? By borrowing against the carried interest, often
at absurdly low rates—currently about 2 percent.
Lots
of other people live tax-free, too. I have Donald Trump’s tax records
for four years early in his career. He paid no taxes for two of those
years. Big real-estate investors enjoy taxfree living under a 1993 law
President Clinton signed. It lets "professional" real-estate investors
use paper losses like depreciation on their buildings against any cash
income, even if they end up with negative incomes like Trump.
Frank
and Jamie McCourt, who own the Los Angeles Dodgers, have not paid any
income taxes since at least 2004, their divorce case revealed. Yet they
spent $45 million one year alone. How? They just borrowed against Dodger
ticket revenue and other assets. To the IRS, they look like paupers.
In
Wisconsin, Terrence Wall, who unsuccessfully sought the Republican
nomination for U.S. Senate in 2010, paid no income taxes on as much as
$14 million of recent income, his disclosure forms showed. Asked about
his living tax-free while working people pay taxes, he had a simple
response: Everyone should pay less.
5. And (surprise!) since Reagan, only the wealthy have gained significant income.
The
Heritage Foundation, the Cato Institute and similar conservative
marketing organizations tell us relentlessly that lower tax rates will
make us all better off.
"When
tax rates are reduced, the economy’s growth rate improves and living
standards increase," according to Daniel J. Mitchell, an economist at
Heritage until he joined Cato. He says that supply-side economics is
"the simple notion that lower tax rates will boost work, saving,
investment and entrepreneurship."
When
Reagan was elected president, the top marginal tax rate (that’s the
rate at which one’s tax liability increases as one’s income increases)
for income was 70 percent. He cut it to 50 percent and then 28 percent
starting in 1987. It was raised by George H.W. Bush and Clinton and then
cut by George W. Bush. The top rate is now 35 percent.
Since
1980, when President Reagan won election promising prosperity through
tax cuts, the average income of the vast majority—the bottom 90 percent
of Americans—has increased a meager $303, or 1 percent. Put another way,
for each dollar people in the vast majority made in 1980, in 2008 their
income was up to $1.01.
Those
at the top did better. The top 1 percent’s average income more than
doubled to $1.1 million, according to an analysis of tax data by
economists Thomas Piketty and Emmanuel Saez. The really rich, the top
10th of 1 percent, each enjoyed almost $4 in 2008 for each dollar in
1980.
The top 300,000 Americans now enjoy almost as much income as the bottom 150 million, the data show.
6. When it comes to corporations, the story is much the same— less taxes.
Corporate
profits in 2008, the latest year for which data is available, were
$1,830 billion, up almost 12 percent from $1,638.7 in 2000. Yet, even
though corporate tax rates have not been cut, corporate income-tax
revenues fell to $230 billion from $249 billion—an 8 percent decline,
thanks to a number of loopholes. The official 2010 profit numbers are
not added up and released by the government, but the amount paid in
corporate taxes is: In 2010 they fell further, to $191 billion—a decline
of more than 23 percent compared with 2000.
7. Some corporate tax breaks destroy jobs.
Despite
all the noise that America has the world’s second highest corporate tax
rate, the actual taxes paid by corporations are falling because of the
growing number of loopholes and companies shifting profits to tax havens
like the Cayman Islands.
And
right now America’s corporations are sitting on close to $2 trillion in
cash that is not being used to build factories, create jobs or anything
else, but act as an insurance policy for managers unwilling to take the
risk of actually building the businesses they are paid so well to run.
That cash hoard, by the way, works out to nearly $13,000 per taxpaying
household.
A
corporate tax rate that is too low actually destroys jobs. That’s
because a higher tax rate encourages businesses (who don’t want to pay
taxes) to keep the profits in the business and reinvest, rather than
pull them out as profits and have to pay high taxes.
The
2004 American Jobs Creation Act, which passed with bipartisan support,
allowed more than 800 companies to bring profits that were untaxed but
overseas back to the United States. Instead of paying the usual 35
percent tax, the companies paid just 5.25 percent.
The
companies said bringing the money home—"repatriating" it, they called
it—would mean lots of jobs. Sen. John Ensign, the Nevada Republican, put
the figure at 660,000 new jobs.
Pfizer,
the drug company, was the biggest beneficiary. It brought home $37
billion, saving $11 billion in taxes. Almost immediately it started
firing people. Since the law took effect, it has let 40,000 workers go.
In all, it appears that at least 100,000 jobs were destroyed.
Now
Congressional Republicans and some Democrats are gearing up again to
pass another tax holiday, promoting a new Jobs Creation Act. It would
affect 10 times as much money as the 2004 law.
8. Republicans like taxes too.
President
Reagan signed into law 11 tax increases, targeted at people down the
income ladder. His administration and the Washington press corps called
the increases "revenue enhancers." Among other things, Reagan hiked
Social Security taxes so high that the government collected more than $2
trillion in surplus tax since 2008.
George
W. Bush signed a tax increase, too, in 2006, despite his written
ironclad pledge to never raise taxes on anyone. It raised taxes on
teenagers by requiring kids up to age 17, who earned money, to pay taxes
at their parents’ tax rate, which would almost always be higher than
the rate they would otherwise pay. It was a story that ran buried inside
The New York Times one Sunday, but nowhere else.
In fact, thanks to Republicans, one in three Americans will pay higher taxes this year than they did last year.
First,
some history. In 2009, President Obama pushed his own tax cut—for the
working class. He persuaded Congress to enact the Making Work Pay Tax
Credit. Over the two years 2009 and 2010, it saved single workers up to
$800 and married heterosexual couples up to $1,600, even if only one
spouse worked. The top 5 percent or so of taxpayers were denied this tax
break.
The Obama administration
called it "the biggest middle-class tax cut" ever. Yet last December
the Republicans, poised to regain control of the House of
Representatives, killed Obama’s Making Work Pay Credit while extending
the Bush tax cuts for two more years—a policy Obama agreed to.
By
doing so, Congressional Republican leaders increased taxes on a third
of Americans, virtually all of them the working poor, this year.
As
a result, of the 155 million households in the tax system, 51 million
will pay an average of $129 more this year. That is $6.6 billion in
higher taxes for the working poor, the nonpartisan Tax Policy Center
estimated.
In
addition, the Republicans changed the rate of workers’ FICA
contributions, which finances half of Social Security. The result: If
you are single and make less than $20,000, or married and less than
$40,000, you lose under this plan.
But the top 5 percent, people who make more than $106,800, will save $2,136 ($4,272 for two-career couples).
9. Other countries do it better.
We
measure our economic progress, and our elected leaders debate tax
policy, in terms of a crude measure known as gross domestic product. The
way the official statistics are put together, each dollar spent buying
solar energy equipment counts the same as each dollar spent
investigating murders.
We
do not give any measure of value to time spent rearing children or
growing our own vegetables or to time off for leisure and community
service.
And we do
not measure the economic damage done by shocks, such as losing a job,
which means not only loss of income and depletion of savings, but loss
of health insurance, which a Harvard Medical School study found results
in 45,000 unnecessary deaths each year Compare this to Germany, one of
many countries with a smarter tax system and smarter spending policies.
Germans
work less, make more per hour and get much better parental leave than
Americans, many of whom get no fringe benefits such as health care,
pensions or even a retirement savings plan. By many measures the vast
majority live better in Germany than in America.
To
achieve this, German singles on average pay 52 percent of their income
in taxes. Americans average 30 percent, according to the Organizations
for Economic Cooperation and Development.
At
first blush the German tax burden seems horrendous. But in Germany (as
well as Britain, France, Scandinavia, Canada, Australia and Japan),
taxsupported institutions provide many of the things Americans pay for
with after-tax dollars. Buying wholesale rather than retail saves money.
A proper comparison would take the 30 percent average tax on American workers
and add their out-of-pocket spending on health care, college tuition
and fees for services and compare that with taxes that the average
German pays. Add it all up and the combination of tax and personal
spending is roughly equal in both countries, but with a large risk of
catastrophic loss in America, and a tiny risk in Germany.
Americans
take on $85 billion of debt each year for higher education, while
college is financed by taxes in Germany and tuition is cheap to free in
other modern countries. While soaring medical costs are a key reason
that since 1980 bankruptcy in America has increased 15 times faster than
population growth, no one in Germany or the rest of the modern world
goes broke because of accident or illness. And child poverty in America
is the highest among modern countries—almost twice the rate in Germany,
which is close to the average of modern countries.
On
the corporate tax side, the Germans encourage reinvestment at home and
the outsourcing of low-value work, like auto assembly, and German rules
tightly control accounting so that profits earned at home cannot be made
to appear as profits earned in tax havens.
Adopting
the German system is not the answer for America. But crafting a tax
system that benefits the vast majority, reduces risks, provides
universal health care and focuses on diplomacy rather than militarism
abroad (and at home) would be a lot smarter than what we have now.
Her
is a question to ask yourself: We started down this road with Reagan’s
election in 1980 and upped the ante in this century with George W. Bush.
How
long does it take to conclude that a policy has failed to fulfill its
promises? And as you think of that, keep in mind George Washington. When
he fell ill his doctors followed the common wisdom of the era. They cut
him and bled him to remove bad blood. As Washington’s condition grew
worse, they bled him more. And like the mantra of tax cuts for the rich,
they kept applying the same treatment until they killed him.
Luckily we don’t bleed the sick anymore, but we are bleeding our government to death.
David
Cay Johnston is a columnist for tax.com and teaches the tax, property
and regulatory law of the ancient world at Syracuse University College
of Law and Whitman School of Management.
He
has also been called the "de facto chief tax enforcement officer of the
United States" because his reporting in the New York Times shut down
many tax dodges and schemes, just two of them valued by Congress at $260
billion.
Johnston
received a 2001 Pulitzer Prize for exposing tax loopholes and
inequities. He wrote two bestsellers on taxes, Perfectly Legal and Free
Lunch.
Later this
year, Johnston will be out with a new book, The Fine Print, revealing
how big business, with help from politicians, abuses plain English to
rob you blind.