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Saturday, April 6, 2013

Will tax reform dollars come from higher rate on capital gains and dividends?

A 4/3/13 article in Politico, "Investment tax rate poses dilemma for the GOP," raises the issue of whether lawmakers will increase the tax rate on capital gains and qualified dividends to help pay for tax reform that lowers the overall tax rates for individuals and corporations. They note that this could generate "gobs of money." I think that is a good way to put it.

If you look at where funds could be generated to pay for lower tax rates in a revenue neutral tax reform bill, there are some obvious choices. These choices are the larger tax expenditures - exclusions such as for employer-provided health insurance, the mortgage interest deduction, and the lower rate on capital gains and dividends. For example, repeal of LIFO is estimated to generate about $7 billion per year. In contrast, a higher capital gains rate might generate $3 billion and a higher rate on dividends $7 billion. I'm estimating these amounts based on some figures in President Obama's FY2013 Greenbook. He had also proposed capping itemized deductions and some exclusions at 28% which using 2001/2003 rates, would have generated $58 billion per year.  And there is another factor to consider. Repeal of LIFO or slowing down depreciation are changes that are just timing. Over the long term, they really don't generate revenue. However, raising the rate on capital gains and dividends and capping the benefit of deductions and exclusions are permanent dollars.

I think Congress will have to look at revenue that can be generated from individual tax changes to help pay for a corporate rate reduction. Some of that change should also help fund a lower individual tax rate.

What do you think?


Unknown said...

If you had the choice between taking out $40,000.00 of your inherited cash which is part of a larger IRA to pay off debts (but did not have to sell stocks to get that $ & your tax bracket is $15% but perhaps less since I am on SSD & earn less than 14,000.00 a year) or take out a 9% re-fill on a 2nd home, which is being rented for $1000.00 a month that will be sold in 3 years with a contract)- is it as simple as comparing interest rates to decide that a 9% re-fill is a better deal than a 15% deal? ( the 9% is non-negotiable as I can only get a "no doc/no asset loan" at that 2013 tax bracketsunfortunately)or are there other matters to consider.

Jenny said...

I think it would be a good idea to tax capital gains and qualified dividends at the same rate as ordinary income to lower the rate on individuals and corporations. It simply doesn’t make sense to have a lower rate on capital gains. The justifications for it do not hold up. Two studies, one done by Dr. Burman from Syracuse University and one done by the Congressional Research Service, covering the time span between 1950-2011 and 1945-2010, respectively, have shown that there is no significant correlation between a lower rate on capital gains and economic growth. Also, according to the Tax Policy Center, “In 2013, an estimated 94 percent of the tax benefit of low rates on capital gains will go to taxpayers with cash incomes over $200,000, and three-fourths of the benefits will accrue to millionaires.” More information can be found here: means that the benefit of the lower rate on capital gains disproportionately goes to higher-income individuals.
Taxing capital gains at a lower rate than ordinary income also violates principles of good tax policy such as: equity and fairness. Equity and fairness has two components: Vertical and horizontal. Horizontal equity requires that people with similar amounts in income pay similar amounts in taxes. The lower rate on capital gains violates this principle because people who have income from capital gains pay less in taxes than those who have income from wages (assuming they have similar amounts in income). Vertical equity requires that people who make more income pay more taxes. The lower rate on capital gains also violates this principle because people who have more income from capital gains may pay less tax than those who have less income from wages.
It also violates the principle of simplicity. The tax code has over 20,000 pages devoted to capital gains. This not only creates complexity, but also invites people to find ways around the rules in order to convert their ordinary income to capital gain. Former chief of staff of Congress’s Joint Committee on Taxation, David Brockway, explained that “any difference between the rates will always drive people to come up with creative ways to hide income as an investment.”

Alyssa said...

This is cool!