By Patrick Watson*
Much of the US government remains in shutdown as I write this, including the Internal Revenue Service (IRS).
That might sound like a good thing… unless you’re hoping for a tax refund anytime soon.
Fortunately, the White House found a solution: redefine the IRS workers who process refunds as “essential” and order them back to work, although without pay, for now. I’m sure they are thrilled.
Taxes are a touchy subject. Nobody likes paying them, but (unless you’re an anarchist) we all realize at least some taxation is necessary. We just want it to be fair and reasonable. Exactly what that means is a never-ending debate.
A newly elected member of Congress stoked up the debate this month. She may have opened a box some folks would like to keep closed.
Flipping out
This time last year, 29-year-old Alexandria Ocasio-Cortez was a Bronx bartender. Now she is Rep. Ocasio-Cortez (D-NY) and has a lot of ideas. She’s concerned about climate change and wants to attack it with a plan she calls the “Green New Deal.”
To pay for the Green New Deal, Ocasio-Cortez proposes raising the tax rate on income over $10 million to 70%, yes, 70%. That’s far more than even the wealthiest Americans pay now.
As you might expect, some people flipped out. Here’s a tweet by House Minority Whip Steve Scalise (R-LA).
Republicans: Let Americans keep more of their own hard-earned money
Democrats: Take away 70% of your income and give it to leftist fantasy programs https://hotair.com/archives/2019/01/04/aoc-tax-rate-70-fund-green-new-deal/ …
AOC: How about a tax rate of 70% to fund my Green New Deal?
"Only radicals have changed this country."
hotair.com
Assorted commentators said “AOC” Ocasio-Cortez obviously doesn’t understand how all this works. Maybe so, but Rep. Scalise obviously doesn’t either, and he’s been in Congress much longer.
Here’s his mistake: A 70% top marginal rate doesn’t take away “70% of your income.”
In this proposal, it would take away 70% of your taxable income above $10 million per year.
In other words, if you make $10 million or less - which describes almost everyone - AOC’s proposal wouldn’t change your taxes at all. That’s because we have a graduated tax system. The rates look like this (for an unmarried taxpayer).
Chart: IRS
The rates rise as income rises, but don’t apply retroactively to income below each bracket. So if you make exactly $10 million in taxable income, your tax would be $3.67 million under the Ocasio-Cortez proposal, the same as it is now.
At $11 million, you would pay another $700,000 in taxes (70% of the additional million), making your total liability $4.37 million. Your effective tax rate, averaged across all your income, would be 39.7%, not 70%.
In fact, what Scalise said in his tweet is impossible. Mathematicians call it an “asymptote.” The effective rate can never be 70% as long as that first $10 million is taxed at lower rates. No one would have 70% of their income taken away, even if AOC gets what she wants.
It could get close at high income levels, though. At a $3.3 billion income, the effective rate would be 69.95%. So Rep. Scalise is correctly concerned for the handful of Americans who make that much.
Taxing the 0.05%
Having cleared that up, let’s get to the bigger point. Is a new 70% tax rate on high incomes a good idea?
Well, it would raise some money, but nowhere near enough to pay for all the programs Ocasio-Cortez and other progressives want. A Washington Post analysis estimated it would bring in an additional $72 billion yearly.
The reason is very few Americans make more than $10 million yearly—only about 16,000 did so in 2016, according to the latest available data. That’s not the fabled 1% upper class. It is the far more exclusive top 0.05%.
To collect really big money, such a tax would need to apply more broadly. Raising that top rate from 37% to 57% for the top 1% of taxpayers would yield about $170 billion per year, calculates former Treasury economist Ernie Tedeschi.
Even 57% would be a huge increase from present levels, but it’s not unprecedented. According to data from the National Taxpayers Union Foundation, the top bracket was 70% or more from 1936 to 1980, and usually applied to income well below $10 million. The economy survived and sometimes even thrived in those years.
Even today, people in parts of Europe pay much more than Americans do. Most don’t seem to mind.
I think the deeper problem is not the amount of taxes. It’s that people think the system isn’t fair, or the government doesn’t provide useful services.
That’s not entirely wrong but fixing it will take more than higher rates. But I’ll bet AOC learns that quickly.
Photo: Flickr
A problem for all
For now, this idea will go nowhere. There is no way the Republican Senate or President Trump will agree to anything remotely like Ocasio-Cortez envisions.
However…
If you’re a wealthy person who thinks your taxes are too high, you ought to be concerned. By saying these things out loud, AOC put a ball in motion that some Democratic presidential candidates will pick up in the 2020 campaign.
Further, she’s proving adept at communicating with young voters. Raising their turnout could make a big difference in the next elections. And if Democrats keep the House, take the Senate, and put one of their own in the White House, higher taxes are all but certain.
Now, people who make $10 million or more are generally pretty smart - or they at least have good tax advisors. They’ll see this coming and get ready for it.
Therein lies a problem for everyone.
If wealthy taxpayers start trying to capture open gains in their stocks, real estate, and other assets before tax rates rise, it will put downward pressure on those asset prices, which in some cases are already wobbly.
I’m not saying this will set off a crash. But if the perception grows that tax rates will soon increase sharply, more people will try to sell, and prices will soften.
At some point, there may be a rush for the exits. You want to be out before then.
*Patrick Watson is senior economic analyst at Mauldin Economics. This article is from a regular Mauldin Economics series called Connecting the Dots. It first appeared here and is used by interest.co.nz with permission.
48 Comments
You seem to be under some sort of delusion where a $72 Billion increase in tax is “a token gesture”.
The US tends to negotiate budgets in 10 year totals - and so the AOC proposal would be said to raise more than $720 Billion. Compare this to the $1 trillion massive tax cut passed by Republicans a year ago, which was hailed as an absolutely huge tax cut.
The AOC proposal would raise roughly 3 quarters of the taxes that the Republicans cut. Of course I’m sure a Democrat controlled congress and white house would also likely reverse much of the republican tax cuts also for corporates and personal income under $10 million etc so the effect of the democrats taking total control would likely be more like a $1.5 Trillion+ swing in new taxes over ten years,
Add in a likely cut to defense spending and they might even be able to raise enough to join most of the rest of the civilized world with a public health system.
If you are going to seriously advocate for this socialist madness, then walk the talk. One only really "needs" $50k a year to live, once you realise that cell phones, coffees, takeaways, sky, etc, are all discretionary extravagances. So, let's tax all income over $50k at 50% and let's get this socialist panacea that Cortez is on about really rolling. We'll see how that works out. It might be time to consider moving to Asia, because when politicians like her finish with us we'll be in various shades of Venezuela and it'll be too late...
Maggie Thatcher is often quoted as saying that the only thing wrong with socialism is that sooner or later you run out of other peoples' money.
I suggest the message here is not one of socialism, but far more grave. World wide, the very wealthy have a long history of avoiding paying their share. indeed many seem to be of the opinion that the more you have the less you should have to pay. Only a few years ago a very wealthy American was running for office, possibly the presidency, and it came out that while he was quite wealthy, as in a multi-millionaire, a tax declaration showed that he paid less than the average american. It wasn't Trump, he has refused to declare his tax returns. But the tax he paid was completely legal because there were so many loopholes for him to exploit. So from that sense this proposal would likely fail anyway, but more than that it would really highlight just how little the top wealthy (I can't bring myself to say 'earners' because i am not sure they do 'earn' it) actually do pay.
"Well, it would raise some money, but nowhere near enough to pay for all the programs Ocasio-Cortez and other progressives want"
Likely not, but given Trumps tax cuts were unfunded, one can hardly single her out as being an different than the Republicans eh!
What Cluster#### the US is turning into!
Interestingly the USdebt to GDP isn't really rising.
https://fred.stlouisfed.org/series/GFDEGDQ188S
US deficit at about 4% of GDP is nearly matched by growth of 3.4%. But with debt already at 104% of GDP that huge Deficit is only very slightly increasing the Debt to GDP ratio. And tax revenue is continuing to grow at 3% or more a year. It's an interesting gamble, but given historically low unemployment in US maybe it is paying off?
Nah...thats fake news...A one shot adrenalin boost that's just about warn off. Unfunded - the kids will pay for it.
https://www.cnbc.com/2018/10/16/trumps-tax-cut-didnt-reduce-the-deficit…
https://www.politifact.com/punditfact/statements/2018/aug/17/patriot-ne…
cnbc.. politifact. That's fake news. Horribly partisan nonsense.
Didn't claim it reduced the deficit or that it was funded. Just claimed it increased tax revenue. The US is 21 trillion in debt, the kids will most certainly be paying for it. You can thank Obama for a uuuuge chunk of it too!
You have to dig deeper than the propaganda at WP. Hillary’s major donors were all the big banks and corporates. They didn’t contribute to Trump at all. Who wins the most when you get crazy socialists in power? Large corporates and those that are connected and lubricate the govt leaders. The Democrats might embrace this dangerous woman for the next election and they might even win. The middle class will pay the price and join the growing ranks of the poorer classes, who will be sold on the lie that more socialism will improve their lot in life. What has changed in the last 200yrs then? Nothing.
Most people who earn that much will be able to find ways to get around it. eg. switch from salary to stock options, then transfer those options straight into a family trust. The only ones who will gain are the tax lawyers and offshore tax havens. The super rich will simply pick up and move to Puerto Rico or equivalent, where no federal income tax is payable.
look at NZ history. We used to have a 66% tax rate, and tax avoidance schemes abounded. It was a large enough saving to be worth chasing. When the tax rate dropped, most of these disappeared as it wasn't worthwhile any more.
Similar things happened in the 1970s in the UK, when UK millionaires (when that was a lot of money) became tax refugees - including as I recall the Rolling Stones.
If you are earning $US10m+, then you will limit your tax exposure at 37%, but pay if you have to. at 70%, you will take much more action.
LOL - yeah I’m sure a reduction in tax rate caused those high earning individuals to increase the amount of tax they pay from 0% to 37% because the “tax was fairer”. /S
You are confusing correlation with causation.
The reason why tax avoidance dropped significantly during that period of tax reform, is because the rules and enforcement mechanisms around tax avoidance changed dramatically, leading many to pay taxes where previously they avoided them. (Jail time is a great motivator to instead pay the correct amount of tax)
Struth, the statists get 70 billion NZ$ to spend as it is and we're still f.....d up. I'd like to see them try to do more with what we've got first. Exactly what more is, is up for grabs, but we do not need half the people that work for central or local governments as it is. Most of them wouldn't know which way was up on a good day. More tax is not the answer. Better spent tax is.
AOC: Re-hashed socialism. You can vote yourself rich, and we promise this time it will work, just like all the other times it has(n't). It's politics for the low information sound-bite generation, ignorant of history and international current affairs, enabled by the left wing academic monoculture/echo chamber that has grown into existence over the last 20 years in our universities.
All of it earned through entrepreneurship, starting their own businesses, coming up with new ideas, taking risks and working like bastards over a spans of 15-40 years. Between 50-150,000 hours of effort, and massive personal sacrifice. All now employing between 20 and many hundreds of people.
Tens of millions is a bit of a shift in the goal posts IMO. I'd consider anyone with more than a couple M$ to be "rich" nowadays.
I've accumulated several M$ in my career, via collecting paychecks, living beneath my means, and investing wisely. This DOES NOT include being a landlord, as I found that the share market was a far more prudent investment for me in the last 30+ years. I even sold my house when the market went stupid and rented for a decade afterwards as it was then cheaper to rent than to own. For me, market timing worked rather well. I've also been successful in market timing in the share market.
Tens of millions is silly money IMO. One should be able to live a rich life from your 50s with a few M$ saved, assuming that one doesn't have a spendthrift lifestyle.
Caveats now... I didn't do the "smashed avocados" thing, and have spent a lifetime total of ~$60k (nzd) purchase price for four decades of vehicle ownership. In only the last year, bought our first ever television. Have never paid for cable, netflix, or the like... the path to riches is via living beneath your means.
At present, the hardest aspect is in changing our viewpoint from frugality to spending. Assuming returns that just match inflation, we have enough funds to live into our 90s if we spent 30% more than our normal annual budget. Don't lecture me about how a wage earner cannot become wealthy. It can be done, it just takes a lot of work, austerity in the early years, good fiscal responsibility, and some luck. The last bit has to be there, as life is inherently unfair at times. I remember in the late '80s where my wife was less than a week away from being laid off before she found a good replacement position in the company. Going through cancer/chemo/radiation twice provides a better understanding of the luck factor, and the unimportance of monetary success if the health isn't commensurately successful.
Self made is a fallacy. Yes, an individual must have cultivated certain habits but the assistance of others, the
passing down and sharing of knowledge, and the environment they operate within have all contributed to their results.
This is where I believe we have lost our way regarding the sharing of the economic pie. The sole focus on one's self interest at the expense of the whole is quite literally IMO why there is such a global state of turmoil.
I've been reading Napoleon Hill's Key to Success and I feel that what he says about teamwork is also something humanity has lost sight of.
"Cooperation, like love and friendship, is something you get by giving. There are many travelers on the road that leads to happiness. You will need their cooperation, and they will need yours.
And there will be other generations after ours. Their lot in life will depend on the inheritance we leave them. We all must become bridge builders, not only for the present generation but for generations yet unborn.
The spirit of unselfish teamwork will provide greater benefits for both you and your generation as well as help those to come. In building a better world for your children, you will be preparing yourself for the better things in life that come as a result of friendly cooperation.
This kind of cooperation has been a major part of the growth of the United States into the most powerful and economically advantaged nation in the world. As Americans we are bound in a common cause, and no matter what misfortunes overtake us, we must shoulder those burdens equally in the spirit of unselfish teamwork if we are to retain our preeminence.
Until we become inspired with the spirit of teamwork and recognise the oneness of all people and the fellowship of all humanity, we will not truly benefit from the principle of cooperative effort. Greed and selfishness have no part in this spirit." My emphasis in bold.
Every boss I’ve had has been self made, most of them millionaires multiple times over. One even lost a fortune and made it back again. They’re awesome people. If you look at the stats, NZ is very economically mobile. There are definitely “old money families” but they are in the minority.
Why do so many posters here have a bug in their ass about capital gain on property? It's supposed to go up in value - we have a positive inflation target, not negative. Such bitterness blinds you to economic reality. It's almost certain that those who have done well outside property did so by benefiting indirectly from the property wealth effect and consumption.
The bug is that property inflation should match wage inflation in general terms. The annoying aspect is the effects of the cost of money. That is, the interest costs for borrowing (mortgage rates) have been decreasing which provides for a higher mortgage value for a fixed monthly payment. Interestingly, a few decades ago, the monthly mortgage payment was a higher percentage of the take-home pay than it is currently for a FHB. Of course, back then the down payment was a smaller percentage of the annual payment. The very annoying part of the past was that the high inflation rates meant that it was also difficult to save for a down payment as the savings target was changing by a large percentage every year.
The "property wealth effect" you reference is a bit of the broken window fallacy. That is borrowing from the future to get a present economic gain.
A further note... I have been a strong advocate of a capital gains tax on all capital gains incurred. That would include property capital gains. Yes, that should also include capital gains on the principal home if sold. I could see the potential for a carve-out for the first $100k or $200k of capital gains on the primary home for a maximum of one $100k CG deduction per decade. This should tax the majority of the specuvestor capital gains. Some of the specuvestors do their speculation via serial family home ownership I see no reason why they shouldn't be taxed...
I have to agree with one aspect of your comment, that inflation is a tax, a tax by stealth.
How about this for a CGT. Any gains in excess of inflation should get taxed at the highest marginal rate, full stop. That will allay your concern in regards to property gains being due to only inflation. In an ideal world this would apply to all capital gains including when you sell your primary house. I can see a possibility for a deferment of this tax on the primary home sale if one buys a replacement primary home within a short period of time such as 90 days. Other than that caveat, no exceptions.
Actually no, it shouldn't go up at the same rate as general wage inflation.
You're forgetting (like everyone else in the country) that property has SIGNIFICANT RISK, think upwards of 50% capital losses in bad times. You are compensated to take risk, which performs an economic utility for society. I.e someone has to hold the asset, and market laws state that returns go up until someone is willing to hold the asset at X price.
It only has significant risk now because it is currently hugely overpriced and will at some stage need to get back to its real value. Property should be a long term stable and rather boring investment with returns that mirror that risk level, unless you pump money into improving/developing the property.
There are a plethora of reasons why property has outstripped inflation/wage inflation. Lower interest rates, changing demographics, immigration, tax incentives. Generally speaking, lower tradeable inflation = higher non-tradeable inflation (houses). China has exported deflation and capital and NZ has been a recipient of both.
My point is, some investors got lucky, others made their own luck.
The primary reason for property gains is captured in your first bit of data. A second aspect is the change in investment mentality after the NZ share market crash about 40 years ago, which scared NZ speculators away from the share market. Back then, the share market was held to be similar in terms of gains and "you cannot lose" as how the average kiwi sees the property market now. A wild blowoff gain followed by a short but very strong decline, and the NZ speculator/investor became more than a little bit scared of the share market and developed a love for the property market. There is a reasonable possibility that this relative bias may invert in the next few years... :)
As to assuming that successful people were successful only because of the effects of property inflation, whether directly or indirectly, I would be a good example demonstrating that this hypothesis is not correct. The one fiscal mistake I made was to not go for the "property ladder" step up about two decades ago. I knew at the time that it made sense to upgrade, but I couldn't be bothered, as going through the hassles of shifting house was more effort than I wanted to make at the time. I should compare the property gains from the turn of the century to 2006 to the share market gains to see which decision was the best one in hindsight... :)
Not one comment about our continued tax bracket creep because our top tax bracket is only $70k?
I would love to see a higher tax bracket established at the $100k level and the $150k level and maybe a tax free threshold included. I would be hit by higher taxes but it would help out the majority of NZers.
You silly man..you are not supposed to pay tax, you are meant to play the rental, tax loss game - the tax mitigation strategy of choice.
Well once negative gearing comes to an end the screams might get louder. Many, including large numbers of politicians, didn't give a hoot about top tax brackets as they had endless tax losses to offset with.
The tax bracket creep is an insidious thing. It is rather sad that the bracket definitions are not inflation indexed. The prior govt had put a proposal to re-index the brackets to match the effective brackets from something less than a decade ago, but it was branded by some to be a tax cut rather than a correction for inflation.
As to adding additional tax brackets for higher incomes, I would suggest using something more exponential rather than linear in terms of defining the income steps. There are also some inherent inequities when looking at "middle class" level incomes to define the breakpoints. The "just getting by" income level for Auckland is considerably higher than the similar "just getting by" income for Gore. Why should the JAFA get an effective higher tax rate?
FYI, AOC is giving as good as she gets on Twitter;
The odds of me making over $10 million in one year while serving in public office are probably as slim as the odds of the GOP ever understanding what a marginal tax rate is.
— Alexandria Ocasio-Cortez (@AOC) January 21, 2019
But if it ever got to that, I’d be happy to contribute more for our bridges, teachers, and firefighters. https://t.co/DnBA9nbU4r
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