If you listened to the State of the Union Address tonight, you would have heard the President announce his tax plan in dramatic fashion by declaring that a secretary should not pay more taxes than a billionaire. He was actually talking about tax rates rather than taxes, and in particular about the lower rates on capital gains (15%). It may be a coincidence that this comes during a time when Mitt Romney is being criticized in the press for having lots of low taxed capital gains, but the result is a proposal that anyone making more than $1 million annually should pay an effective rate of at least 30%. The proposal seeks simplicity (one simple rate), followed immediately by complexity in stating that the rule would be “implemented in a way that is equitable, including not disadvantaging individuals who make large charitable contributions.” That, of course, begs the question of who else would not be disadvantaged. How about those who have lots of loss carryovers, or pay lots of foreign taxes, or invest in start-ups? The confusion results because the solution is aimed at a problem that does not exist. The perceived evil is not millionaires paying too little tax, it is the capital gains rate itself. It is not as great a sound bite, but what the President should have said is that a person earning compensation income should not pay tax at a higher rate than a person recognizing gain from the sale of capital assets. And that is an argument that is as old as the tax code itself.
I don’t have an answer to this question, but at least I can see the humor in it. Currently, gains from the sale of qualified small business stock (QSBS) are taxed at low rates. Just last year those gains could have been exempt from tax altogether. And now they should be taxed at 30%? I don’t think it is the identity of the seller that is at issue since, frankly, a million dollars doesn’t buy what it used to anymore, and if you eliminate the QSBS incentive for millionaires, you have simply eliminated the incentive.
Well, that might be just a case where the rule must be “implemented in a way that is equitable, including not disadvantaging individuals who”… invest in start-up companies. So perhaps there will be an exception for qualified small business stock.
But don’t forget about real estate. Real estate is an entire industry built on the existence of a low capital gains rate. If capital gains goes away, you will be able to watch the needle on lease costs rise by the time your morning coffee cools. Trust me on this one. Thus, we may have to implement the rule in a way that is equitable, including not disadvantaging individuals who invest in real estate. In fact, I think we could take the statement: “implemented in a way that is equitable, including not disadvantaging individuals who make large charitable contributions” and just leave the last part blank. Try it yourself. It’s fun:
“We should work to work to ensure that this rule is implemented in a way that is equitable, including not disadvantaging individuals who [fill in the blank with whatever type of income you have]. “
And then we are back to complexity and unfairness.
Don’t get me wrong, I applaud the President’s efforts to find a solution to a perceived inequity. I also am glad to see that he obviously reads my blog post and is now (after my last post) proposing to lower corporate tax rates for international competiveness. However, I think the direct approach is the best approach here. If the offense is a low capital gains rate, the discussion should be about capital gains rates, not who earns the capital gains. Any other approach would not be implemented in a way that is equitable, including not disadvantaging individuals who…..