Income Tax vs. Wealth Tax

Income Tax vs. Wealth Tax March 15, 2019

John is a middle-aged father of a family of four, He has accumulated a modest nest egg for retirement. So far, he has saved about $150K. He suddenly has an epiphany about a new product. He uses most of his nest egg to start a side business to manufacture it, after obtaining a patent to protect his idea. The product is successful, and sales take off. He quits his job so he can devote full-time to his new business. A large corporation offers to buy his business, including the patent, for $5M. John accepts the offer. His taxable income for that year is $5M. At current tax rates, he will pay over $1.5M in federal taxes.

Bill is another middle-aged head of a family. He is also CEO of a large corporation. His annual salary is $5M. His net worth is over $25M. His annual tax bill is about $1.5M.

Should these two individuals pay the same taxes? John’s windfall is probably a once-in-a-lifetime event, and his tax bill is nearly 30% of his net worth. He can’t even use income averaging to lessen his tax bill. That option was removed for most people in 1987.

Bill gets his $5M every year. His annual tax bill represents about 6% of his net worth, and that percentage is going down every year as his net worth increases.

The growing inequality of income in the US is well known. In 2015, the top 1% earned 22% of the total national income, and that inequality is getting worse. In most states, income of the top 1% is growing faster than that of the bottom 99%. What about the inequality of wealth? In 2015, the top 1% owned 35% of all the wealth in the country, and the top 10% owned 76%. All of these figures are probably significantly worse today.

What if income tax were reduced and the difference made up with a wealth tax? Many nations already have such a tax, although in most cases it represents a small part of their total tax revenue. Such a tax would reduce the incentive for people to save for retirement unless it started at $1M, at a very low percentage rate like 0.1%, and then became progressively higher, topping out at around 3% at $1B. How much could income taxes be reduced…or the deficit reduced…by such a tax?

In 2018, there were 9.4 million individuals with net worth between $1M and $5 million, 1.3 million individuals with net worth between $5 million and $25 million, and 156,000 households with more than $25 million in net worth.[i]  Those numbers were significantly higher in 2018. A progressive wealth tax could raise as much as $300B a year. (See Addendum for calculations to support this.)

Total IRS revenue from individuals is estimated at $1.7T for 2019. The wealth tax could replace as much as 20% of that…or reduce the currently outrageous deficit by a third.

The obvious question is: Would such a tax be “fair” to the wealthy? The nation has had progressive income taxes for more than a hundred years. Often those taxes have been much more progressive than they are today. The current and growing disparity in income and wealth distribution is not healthy for a democratic government. Wealth is power, and in our society, it results in political influence. We are approaching an oligarchy, where a wealthy minority controls government and imposes its will on the rest of the populace. Many conservatives would oppose such a tax, claiming that it would reduce incentives for the wealthy to invest in the businesses that hire all those workers. Is that really true? One thing is clear: If the poor keep getting poorer, and the middle class descends into poverty, nobody is gonna buy all that stuff that the wealthy folks are making in their factories.

Politics is all about how the economic pie is shared by the citizenry. It’s past time to take another look at our present political system because it’s clearly not working for most people. The last time the disparity between rich and poor was as pronounced as it is today was back in the Roaring Twenties, when the Robber Barons ruled, and capitalism was rapacious and unfettered by government regulations. Then came the social programs of FDR’s New Deal, and the boom that followed WWII. Working people were doing well then, making good wages, with the help of strong unions. Taxes didn’t seem to be a problem, even though they were far more progressive than today, with marginal rates reaching 91% for the wealthy.

But back to our problem today: The shrinking Middle Class, wage stagnation (except when we run huge deficits to provide artificial stimulus), and the growing incidence of poverty in the lower economic classes. What is going on here? Conservatives say that capitalism is the engine that has driven our prosperity, making us the richest and most powerful nation the world has ever seen. That is arguable. The settlers who came here and stole the land from the indigenous people were fortunate to find a rich land, with abundant resources. The coincidental timing of the European occupation of North America and the Industrial Revolution was more important than economic ideology or practice.  Coal juxtaposed to iron ore deposits, unexploited, well-watered farmland, extensive forests, and indigenous people who could be bullied out of the way were collectively the enablers of American wealth. But even if the capitalists were right, why is it no longer working?

Capitalism is based on competition…between businesses in a “free market,” and between individuals. Anybody can become rich and successful if they are willing to work hard, right? That’s the American Dream. Or was. A recent Pew study concluded as follows:

“The analysis makes it clear that children born into different economic circumstances can expect very distinct economic futures. The degree to which family advantage is transmitted suggests that opportunities for economic success are very unequally distributed. Although no one would be surprised that children from higher-income families enjoy some advantages, this report reveals them to be dramatic. Given that these advantages likely arise from true inequalities of opportunity, the results presented here underscore the importance of policy efforts to increase mobility in the United States.”[ii]

In capitalism, the big fish eat the little fish through mergers and acquisitions…or by driving them out of business. As the market for a product or service narrows to a few large players, an oligopoly results, and the temptation to collude to fix prices grows. Does anybody think that the prices Big Pharma is charging for their drugs has anything to do with free market competition? When their patents run out, they pay the generic providers to hold off on producing low cost competing products, so they can continue to charge their astronomical prices. Free market capitalism is dying in this country, along with democratic government. At the root of the problem is concentration of wealth in the hands of a few powerful people who are controlling the political process, and emasculating the regulatory agencies which are the only defense that the people have to protect them from oligarchy and oligopoly.

A net worth tax could, over time, reverse our course toward that dismal destination.

 

ADDENUM

Net Worth Tax Calculations

 

 

Range($M) Percent Average($M) Tax($) cohort Total tax($)
1 to 5 0.1 2 1K 9M 9B
5 to 25 0.5 10 29K 1.3M 38B
25 to 100 1.0 50 354K 100K 35B
100-1B 2.0 200 3M 36K 108B
>1B 3.0 5B 144M 585 84B
Total 274B

 

1 to 5 calculation:          1M x 0.1% = $1K

5 to 25 calculation:        4M x 0.1% = $4K

5M x 0.5% = $25K

Total                                                      $29K

 

25 to 100 calc.               4M x 0.1% = $4K

20M x 0.5% = $100K

25M x 1.0% = $250K

Total                                                       $354K

 

100 to 1B calc.              4M x 0.1% = $4K

20M x 0.5% = $100K

75M x 1.0% = $750K

100M x 2% = $2M

Total                                                       $2.854M

 

 

>1B calc.                        4M x 0.1% = $4K

20M x 0.5% = $100K

75M x 1.0% = $750K

400M x 2% = $8M

500M x 3% $15M

4B x 3%      $120M

Total                                                    $143.854M

 

Top 10% own $51T which is 75% of the wealth

Therefore total wealth is 51/0.75 = 68T

 

In 2016, 90% of the households have less than $1M in net worth.

95% were under $2M

99% were under $10M

 

As of 2017, 585 billionaires in the US control $3.1T

In my scheme, they would pay about $24M on the first billion (2.4%), and 3% on anything above that.

3.1 –  0.585 = 2.5T taxable at the >$1B rate.

Average billionaire = 3.1/585 = 5.3B

 

[i] https://www.cnbc.com/2017/03/24/a-record-number-of-americans-are-now-millionaires-new-study-shows.html

 

[ii]https://www.pewtrusts.org/~/media/assets/2015/07/fsm-irs-report_artfinal.pdf?la=en

 

 


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