Republican Tax Policy: Redistributing the Wealth from Working People to the Wealthy
In 2010, Mitt Romney, one of the candidates seeking the Republican nomination for the Presidency of the United States, earned $21,661,344 and paid $3,009,766 in taxes, which is an effective tax rate of $3,009,766/$21,661,344 = 13.89% (Tales of the 1040s). By contrast, a self-employed taxpayer with no dependents — let's refer to him as Poor Richard — who made a mere $20,000 in 2010 would have had to pay:
|Deduction for ½ of SE Tax||$1,413|
|Income Subject to 10% Marginal Rate||$9,237|
|Total Tax = SE + Marginal Tax =||$3,750|
|Effective Tax Rate||18.75%|
So Poor Richard must pay 18.75% of his income in taxes — that's a 4.86% higher tax rate than what Mitt Romney paid in 2010. Why is it that someone who is so poor pays a 35% higher tax rate than someone who is fabulously wealthy?
The short answer is that Poor Richard earned all of his income the way most Americans make their money — by working! And employment income is the mostly highly taxed form of income. Mitt Romney, on the other hand, earned most of his money as income that qualified for the long-term capital gains rate of 15%. Indeed, maybe Mitt Romney's tax rate is even lower than this, since if he received any inherited income, he would not have to report that income at all, because it is not taxable to the beneficiary under any circumstances.
The inequity of the tax system can only be understood by understanding how income is taxed and how deductions and tax credits can greatly lower the effective tax rate paid compared to the so-called marginal rate.
Effective Tax Rate
Different sources of income are taxed at different rates, but because taxpayers can use deductions and tax credits to reduce tax liability, the actual tax rate paid by any individual usually differs significantly from statutory tax rates, including the marginal tax rate. The most effective way of determining the actual tax rate paid by an individual is to calculate effective tax rate (aka average tax rate), which is the actual tax paid divided by the income of the taxpayer.
Income taxes are taxes on income. However, not all income is taxed equally. Working income is taxed the most, while investment and inheritance income are taxed considerably less. Most Americans earn most of their money by working, while many wealthy people earn money from investments or receive income by way of inheritance. On working income, the worker must pay both employment taxes and a marginal tax, which is often referred to as the ordinary income tax. The marginal tax rate depends on the taxpayer's income — the higher the working income, the higher the marginal tax rate. However, the marginal tax rate does not apply to long-term capital gains, qualified dividends, or inherited income.
Tax law treats capital gains as being either short-term or long-term. Short-term gains are taxed at the ordinary income tax rate while long-term capital gains are taxed at either 0%, 15%, or 20%, depending on the taxpayer's tax bracket. Qualified dividends are also subject to this same rate.
Federal law does not impose an inheritance tax, which is a tax on the beneficiaries. Instead, federal law imposes an estate tax on the estate of the decedent, which must be paid before the estate is distributed to beneficiaries. Federal law also imposes a gift tax, which is applied at the same rate as the estate tax. Estates and gifts are treated similarly because both represent the means of transferring property from the donor to the beneficiary. Because the beneficiary does not have to do anything to receive the gift, bequests and gifts are collectively known as gratuitous transfers, and the taxes assessed on those transfers are collectively known as gratuitous transfer taxes.
However, most people do not have to pay either the gift or estate tax because the unified tax credit eliminates the tax for most people. For tax years 2011 and 2012, each individual may give up to $5 million tax free, either as a gift or as a bequest. Hence, a married couple can transfer $10 million to their children tax-free. The 2013, the exemption will be $5.25 million and a new change in the law will further increase the exemption by annually adjusting it for inflation. Furthermore, the many tax loopholes, most of which have been purposely inserted by Congress for their wealthy benefactors, allow the wealthy to transfer far more income tax-free to their descendants. For instance, Mitt Romney has provided a tax-free $100 million trust fund for his 5 sons.
The Wealthy Receive Preferential Tax Treatment
The preferential tax treatment given to long-term capital gains and qualified dividends and the large exemption from taxation for gifts and bequests goes a long way toward allowing the wealthy to pay a much lower effective tax rate on their income than what most working people pay, including low income workers.
And although the wealthy pay a higher marginal tax rate, the actual rate paid can actually be much lower than what that rate suggests, because deductions can greatly reduce the amount of income subject to taxation, and tax credits can further reduce tax liability.
Example: Consider the following 2 taxpayers, who are both in the 35% tax bracket. Joe makes $400,000 in 2011 and Martha makes $1 million. If the taxpayers claim only the standard deduction and their own personal exemption, Joe would owe $113,254 for ordinary income taxes, not including payroll taxes, and Martha would owe $323,254 on her income of $1 million. (See Tax Structure: Tax Base, Tax Rate, Proportional, Regressive, And Progressive Taxation to see how these figures were determined.) At these rates, Joe would pay an effective tax rate of 28.3% and Martha would pay an effective tax rate of 32.3%. Now suppose that Martha can lower her income through the use of deductions so that her taxable income is equal to Joe's. Then she would pay the same amount of tax as Joe, but now her effective tax rate would be equal to $113,254/$1 million = 11.3%. Note that both taxpayers are still in the highest tax bracket, but Martha pays little more, as a percentage of income, than the lowest tax bracket of 10% even though she is in the wealthiest 1% of the population.
Although the alternative minimum tax (AMT) reduces deductions for the wealthy, the AMT applies mostly to working income.
Employment taxes (aka payroll taxes), as the name suggests, are taxes on employment. Employment taxes consists of the 12.4% Social Security tax and 2.9% Medicare tax. (For tax years 2011 and 2012, the Social Security tax is 10.4%. Since this is only a temporary provision, I will continue to use the 12.4% rate, since that was the rate for many years and will be the rate for 2013 and afterward.) The Social Security tax applies to all income below the Social Security taxable income cap (2013: $113,700), while the Medicare tax applies to all working income. Hence, the tax rate is generally 15.3% on working income below the income cap, and 2.9% on working income above that amount. The employment tax is a flat, regressive tax that places a much greater burden on low income workers. Furthermore, for employees, there are no deductions that apply to employment taxes.
If the taxpayer is an employee, then the employer pays half of the employment tax and the employee pays the remaining tax. However, the mathematical division of the payment does not accurately reflect the tax burden on the employees because, most economists agree, low income workers bear the brunt of the payroll tax through lower wages. (See Tax Incidence: How The Tax Burden Is Shared Between Buyers And Sellers) In other words, an employer is only going to pay so much for a worker. If the employer must pay payroll tax for the worker, then that is an added cost, which the employer will consider when setting the wage rate. Even workers who make only the minimum wage suffer from the payroll tax through higher unemployment, because it is well-established, that when the price of goods and services increases, the demand decreases. Furthermore, when suppliers receive less for their product or service, the supply decreases. This is also a well-established economic principle. So not only do employers pay a higher price for labor, but the laborers receive less than what the employer pays because they have to pay their share of the payroll tax, which means, in this case, that fewer people look for work or they choose to work fewer hours. This is what is referred to as the deadweight loss of taxation.
Employment taxes are also assessed on self-employed workers. Although they must pay the entire amount, they are permitted to deduct what would normally be the employer's share with the result that self-employed people pay about 14.1% of their income in self-employment taxes. They can also deduct 1/2 of their self-employment tax from gross income, the value of which depends on the taxpayer's marginal tax rate. Although the self-employment tax deduction has only a small effect on the effective tax rate, it is, as tax deductions are, more valuable for higher income taxpayers, so they pay a lower effective self-employment tax than lower income workers.
One of the unfortunate consequences of splitting the tax between employer and employee is that there are no deductions that will reduce employment taxes. Although business expenses reduce the employment tax liability for the self-employed, no other deductions can reduce it further. For instance, contributions to retirement plans, itemized deductions, or personal exemptions do not reduce employment tax liability at all. So the self-employment tax rate is a hefty percentage that applies to all working income.
Furthermore, most tax credits do not lower employment tax liability. Nonrefundable tax credits can only be applied to ordinary income tax. The only tax credits that can lower employment tax liability are the earned income credit, the additional child tax credit, and 40% of the American Opportunity credit. Most people cannot claim the earned income credit since it is only available for very low income workers. For instance, for a single taxpayer with no dependents, the earned income credit is phased out completely when the taxpayer's income reaches $13,665 for 2011. Under any circumstances, the child tax credit does not eliminate the employer's portion of the tax for employees or ½ of the self-employment tax for the self-employed.
As with other taxes, the wealthy do have options for reducing their self-employment tax. A common way of reducing the self-employment tax is by forming an S corporation, which allows the self-employed to declare part of their income stream as a dividend from the corporation, and, therefore, not subject to self-employment tax, even though they are doing the same job as they would if they were just self-employed. Newt Gingrich, for instance, provides his lobbying services through an S corporation. Highly compensated employees can also reduce employment taxes by receiving qualified options as part of their pay package. If the options satisfy tax rules, then not only do the employees avoid paying employment tax on their gains, but those gains are only subject to the low long-term capital gains rate rather than the marginal rate.
Another option is available that applies only to a few taxpayers who work either as hedge fund managers or private equity managers, many of whom earn hundreds of millions of dollars a year. Managers of these funds typically charge a 2% management fee and a performance fee of 20% of profits earned on the investment income of the investors in the fund. The carried interest option allows these fund managers to declare the 20% performance fee as carried interest, which is not only not subject to employment taxes, but is also taxed at the low long-term capital gains rate of 15%, even though the performance fee is part of the compensation package that they earn by working for it, just like anybody else who works to earn money. It is this tax loophole that allowed Mitt Romney, who worked as a private equity manager, to pay a far lower effective tax rate than someone who earns a mere $20,000 annually.
Another exception from employment taxes is carved out for professional traders, who conduct the trading of securities as a business. Professional traders can deduct all of the expenses of trading and can even enjoy the tax benefits of qualified retirement accounts, but they do not have to pay self-employment tax on any of their profits! A casual investor can only deduct some of the expenses of trading, and what is deductible is not only an itemized miscellaneous deduction, but is also subject to a 2% AGI floor. So if a casual investor claims the standard deduction, as most people do, then none of the investment expenses are deductible except for direct expenses that can be added to the cost basis or subtracted from the sales proceeds, such as brokerage commissions.
Although employment taxes are especially burdensome on low income workers, some people feel that it is justified because Social Security taxes are for the taxpayers' retirement and that Medicare taxes provide medical insurance for senior citizens. But a taxpayer cannot bequeath the share of his contributions to the Social Security fund or to the Medicare fund if he should die before retirement age. Furthermore, a situation that will be far more common in the future is that many taxpayers will have to continue working to earn a livable income, and they will have to continue paying employment taxes even after they start receiving Social Security income and are enrolled in Medicare. Furthermore, anyone who earns money for 10 years that is subject to Medicare tax will receive Medicare benefits regardless of how much was paid into the fund. So if somebody worked for 10 years, and then received a $1,000,000,000 inheritance, he could still collect all the Medicare benefits that would be available for somebody who paid into the Medicare fund for 40 years! Hence, no relationship exists between the amount paid into the Medicare fund and the amount of benefits that can be received. Thus, employment taxes are just that — a tax on income. It is not the taxpayers' money, so why should employment taxes be a separate tax?
A better question is, why shouldn't employment taxes be applied to all income? After all, there is no particular reason why employment taxes should only be assessed on employment. If employment taxes did apply to all income, then the wealthy would not be able to take advantage of deductions to reduce their tax rate as they can with the marginal tax. Furthermore, assessing employment taxes on all income would eliminate the few loopholes that can reduce self-employment tax for the wealthy, such as characterizing income as carried interest or as a dividend from an S corporation.
State and Local Taxes
State and local taxes are mostly flat taxes, and as such, burden the poor more than the wealthy. Even income taxes often only apply to working and investment income, but they usually do not apply to income from pensions. No doubt pensions are exempt so that state workers and legislators receiving generous pensions do not have to help pay for the cost of those pensions. Most states assess sales tax on most items. Municipalities also charge a local tax, and often, this tax only applies to working income — not to inheritance nor to investment income nor to pensions. Additionally, both states and municipalities assess many business taxes, which businesses pass on to their customers in the form of higher prices for their products and services. For instance, insurance companies must pay premium taxes on the premiums that they collect from their customers. In most cases, the customers do not know about these taxes, since they are not itemized in their bill. Indeed, some states forbid itemizing taxes, to prevent customers of the business from knowing that part of their cost is a tax.
Sometimes special taxes are assessed on individuals. For instance, Pennsylvania allows its municipalities to charge a flat Local Service Tax of $52 on anyone who has earned income greater than $12,000 for the year. I guess the municipalities decided that if someone earns $12,000 per year from work, then they are rich enough to pay their tax. Is the $12,000 indexed for inflation, like the pay and pensions of state legislators? No! Is there any allowance for low-income taxpayers with children? Again, no! No doubt that this tax is assessed so that the municipalities can afford the nice pensions that they are giving their workers. So do the people receiving these pensions have to help pay for them by paying the tax? Again, no! Of course, not many people outside of government employment receive such nice pensions, especially defined-benefit pensions, but people who have to work for a living in the private sector will be paying for those pensions for at least as long as they work. Considering that pension costs are increasing every single year, taxes will also have to be increased proportionally, and no doubt most of those taxes will be either assessed on working income or assessed as a hidden tax that is applied to businesses.
No Deadweight Loss of Taxation on Gratuitous Transfers
Working income is the most highly taxed form of income. It is more heavily taxed than either investment income or inherited income. And yet taxes on working income have the most effect on altering peoples' behavior — and isn't it the Republicans who are always complaining about how tax policy distorts economic decisions?
It is work that directly increases the wealth of any economy. Investments would not yield any return if it did not ultimately put people to work to accomplish some specific objective. That is the mechanism by which investment increases the wealth of society. Indeed, during the 1980s the Republicans advertised Laffer's curve as a way to show how higher taxes provide a disincentive for work, which is true. However, gratuitous transfers are the one thing that can be taxed that would not distort economic incentives, because no matter how high the tax rate, people will continue to die at the same rate. Indeed, the Laffer curve for inherited income increases proportionately with the tax rate.
The Republicans do not want to tax inheritance at all nor do many want to tax investment income. And yet, it is this income that accrues mostly to the wealthy, to the people who need it the least. They argue that to tax inheritances or estates is to tax money twice — once when the donor earns the money, then another time when the beneficiaries receive the money.
However, income taxation does not work that way. Taxation is not based on how much tax is taken out of a specific dollar; it is based on the income received by an individual.
The multiple taxation argument fails because, in actuality, money is taxed over and over again. Think about it. When you work and receive wages, you pay taxes on it; when you go to the store and purchase an item, the store pays tax on it; when the store pays its suppliers, then the suppliers pay tax on it. That money is used continuously in multiple transactions at a rate of what economists call the velocity of money, and it is taxed in most of these transactions. Money is taxed over and over again because if it were not, government would soon grind to a halt. After all, you cannot hire a housecleaner or gardener and pay them and say, "Hey, you don't have to worry about paying any tax on this because I already paid tax on the money that I am giving you." The tax system simply doesn't work that way and it never has. Indeed, isn't assessing both employment taxes and marginal taxes on employment income considered double taxation, especially since both taxes apply to the same income to the same individual? And considering that state and local income taxes are also assessed on working income in most jurisdictions, working income, in most states, is quadruply taxed!
So why should it be different with gratuitous transfers. The offspring of the wealthy already have many huge advantages including connections to important people and the best education that money can buy. Considering that the Republicans constantly argue that taxes distort economic decisions, it makes no sense not to tax inheritance since any tax on inheritance will not distort economic decisions.
Another benefit of inherited income over working income is that inherited income does not have to be reported, so it does not increase the beneficiary's AGI, which could disqualify the beneficiary for exemptions, tax credits, or deductions or even IRA contributions, even if the taxpayer inherited millions of dollars. By contrast, if you earn more money through working and your AGI continually increases, then eventually you will lose the exemptions, tax credits, and deductions that are subject to income limits. Other tax saving strategies, such as making tax-deductible contributions to a traditional IRA, will also be eliminated.
Another reason to tax inheritance is that it can help to keep the Social Security fund solvent. Republicans have been complaining for years that the Social Security fund will soon go bust, and that Social Security and Medicare should be privatized. However, one of the reasons why keeping Social Security and Medicare solvent will be more difficult is because many people receive more money and benefits than they paid in employment taxes. Therefore, a sensible solution to mitigate this problem is to tax estates on the excess amount that the decedent collected in Social Security and Medicare over what was paid in, plus interest, before any exemption is applied to the assets of the estate.
Tax equity can be measured in several ways. The benefits principle states that people should pay taxes according to the benefit that they receive from the tax, such as the gasoline tax that is used to build roads and bridges. Then there is the ability-to-pay principle, which states that people should pay taxes in proportion to their ability to pay. Obviously, according to this principle, the wealthy should pay more.
However, the most important factor in creating tax equity is to consider what I call the marginal utility of money. When someone makes $50,000 or less they need all of their income to buy essentials, such as food, housing, and health insurance. Rich people do not have to worry about these things because they have far more than is necessary to purchase those items. As people make more money, the value of each successive dollar becomes worth less. This is why some rich people buy $40 million yachts that they use for 2 weeks out of the year or they pay $106.5 million dollars for a painting that Picasso painted in a single day. These are people that have so much money they do not know what to do with it. But, they don't want to pay taxes! Indeed, it seems like it is a sport among many of the wealthy, in that they take pride on how much they are willing to pay for things, such as paintings, while reveling in how little tax they pay.
It is often argued, especially by the Republicans, that investments should not be taxed because investors take risks investing their money. However, consider the typical worker. They have to go to a job which they do not like and toil at it for 8 hours a day or more and for 40 hours a week or more doing something that they do not want to do, but they do it because they have no choice. The incentive for these workers is pay, but when the pay is heavily taxed, then that reduces both the supply and demand for labor.
On the other hand, the marginal utility of money explains why the risk that an investor takes is not very much. After all, why are investors more afraid of losing a specific sum of money than earning an equal amount? For instance, suppose an investor has $100,000 and wants to make a $50,000 investment. If he loses $50,000, then he only has $50,000 left. If he earns $50,000 more, then he has an extra $50,000, but this extra $50,000 has less value than the money that would be lost if the investment was not successful. When people have enormous sums of money, the risk of loss is especially little, because what else are they going to do with the money? Think about it, if you buy a Picasso painting for $106.5 million dollars, then how are you going to earn income on it? Your hope is that someone else will eventually pay even more than you did, but if you have to take a loss on it, you will probably still have hundreds of millions of dollars left, because you probably would not have bought the painting otherwise. This is why wealthy people do not worry too much about how much they pay for things, because each of their dollars matters little to them. Poor people spend time to save money, such as clipping coupons, while the wealthy spend money to save time. Although time is a valuable commodity indeed, the poor nonetheless have to spend their time doing these things because otherwise they would have to spend more time working so that they can afford the essentials of life.
And what about the inequity of employment taxes? Why should employment taxes only apply to employment? There is no good economic argument as to why employment taxes cannot be applied to all income, regardless of its source, especially since, as a regressive flat tax, it is a major burden on the poor and the middle class. This is beginning to change with the new net investment income tax, but it should be expanded so that working income is not taxed any more than investment income or inheritance, especially since the latter forms of income flow mostly to the wealthy.
You often hear the Republicans talk about the many people who pay absolutely no tax. First, this is a falsehood. The Republicans assume that if you pay no ordinary income tax, then you pay no tax, even though you're still paying the hefty employment tax. The people who pay no tax either have very low incomes or they have many children, which allow them to take advantage of the child tax credit, which is worth $1,000 per child. If a self-employed taxpayer makes a mere $50,000, then she will owe about $7,000 just for the self-employment tax. Since she can only eliminate half of the self-employment tax liability with the child tax credit, she would need to have at least 4 children to eliminate ½ of her self-employment tax liability, and this assumes that she can eliminate her marginal tax liability through other credits and deductions. And if she did have 4 children, wouldn't she need every penny to make ends meet? The other group of Americans who pay little or no tax are senior citizens whose only source of income is Social Security. Since Social Security pays so little, would not these senior citizens need all of the money that they receive?
One statistic that you will never hear from the Republicans is the effective tax rate paid by the 400 richest Americans that is published annually by the IRS. The average income earned by these richest Americans is on the order of hundreds of millions of dollars for the year and their average tax rate varies year-to-year between 17% and 18%. And yet, we constantly hear from the Republicans about how little tax is paid by poor people or people with children. Of course, this coheres with the Republican platform, in that they represent the wealthy, not the poor or the middle class.
And if you are easily misled by statistics, here is a sobering reminder of the statutory tax rates on income:
|Form of Income||Taxes Assessed on Income|
|Employment Income||Employment Taxes + Marginal Tax Rate|
|Investment Income: Interest, non-Qualified Dividends, Rents, and Short-Term Capital Gains||Marginal Tax Rate|
|Long-Term Capital Gains||0%, 15%, or 20%|
|Qualified Dividends||0%, 15%, or 20%|
- Deductions and tax credits can greatly reduce the effective tax rate, especially for the wealthy.
- Tax loopholes also greatly reduce the effective tax rate on the wealthy.
- Except for business expenses for the self-employed, there is no deduction for employment taxes and only a few tax credits can be applied to reduce employment taxes.
- Investment income and inherited income accrue mostly to the wealthy.
Automatic Economic Stabilizers
Recently, the United States has been afflicted with the credit crisis, from which it is only slowly recovering. To stimulate the economy, the Federal Reserve engaged in what is called quantitative easing. They create money by buying Treasuries on the open market from their primary dealers. Quantitative easing is thought to stimulate the economy by keeping interest rates low. However, it has not helped as well as it was hoped. And why should it? Banks are not going to lend to people who have no jobs and are already loaded with debt, since they represent a substantial credit risk. Hence, lower interest rates is not a solution. Quantitative easing merely allows the wealthy to sell their Treasuries for a higher price than they would get otherwise (because the price of debt instruments varies inversely to the prevailing interest rate). If that newly created money was used to lower the payroll tax for poor people, then that would have a much larger stimulatory effect, because the poor would spend the money right away. Taxing the poor less would serve as an automatic stabilizer, because they will spend it quickly, which would have a direct stimulatory effect on the economy. Indeed, shortly after the Social Security Act was passed in 1935, the economy was starting to pull out of the Great Depression of the 1930s. However, the first Social Security payment was only made in 1940. When the government started to collect the Social Security tax in 1937 from both employers and employees, the reduction in the money supply caused by the collection propelled the economy back into a recession. Only World War II finally lifted the economy out of depression. (By the way, the Republicans also opposed Social Security back then, for the same reason that they now oppose the Affordable Care Act, because it will probably lead to increased taxes on the wealthy. It didn't turn out this way, but that is what they probably feared back then.)
Another serious drawback of quantitative easing is that it generally increases prices for some products, which reduces demand. There are 2 sources of these price increases:
- Because quantitative easing decreases the value of the currency compared to commodities and other currencies, the prices of commodities and imported goods increases. One of the major imports where price increases hurts the working class the most is oil, since oil is used to produce many products but also because it is a major component of gasoline, which most people have to buy to get around in America. This reduces their buying power, thus reducing demand.
- For a similar reason, to protect against inflation, the wealthy use their new money to buy assets, which frequently creates asset bubbles. Since many of these assets are used to produce other products, these products increase in price, which reduces demand.
So reducing interest rates is not a particularly effective way of stimulating the economy. After all, there can be no stimulation of the economy unless people spend money – that's obvious. If you have a business and you have no customers, then it doesn't matter how cheap credit is, you would not borrow to develop a product or service that no one is buying or no one can afford nor would lenders lend money to businesses that cannot sell anything. This is why it makes sense to reduce taxes on lower income people rather than trying to lower the interest rates.
I think that Irving Fisher got it right in his 1933 paper called "The Debt-Deflation Theory of Great Depressions", which argued that depressions were caused by the transfer of wealth from debtors, who tend to spend more money which would stimulate the economy, to wealthier creditors, who tend to spend less because of their wealth. This is the primary reason why it is taking so long to climb out of the current recession — not because of President Obama's policies, as the Republicans have charged, but because consumers, businesses, and governments loaded up on debt during the Bush years. Now, instead of spending, they have to pay it back. Of course, Irving Fisher was talking about debt and credit, but that same effect also occurs with taxes, since a heavier tax burden on the poor and middle-class withdraws more money from the people who would tend to spend it. Think of it this way: how does spending over $100 million on a painting stimulate the economy?
The Politically Advantaged and Disadvantaged
Over the centuries — indeed, over the millennia – a small group of people have continually sought to take advantage of the population through politics. In the past, the people who were willing to use violence to obtain what they want were usually successful in confiscating the riches of their society to themselves. Looking, over the years, at various lists of the richest people in the world, I often wondered why many of the richest people in the world often lived in poor countries. I now realize that it was because they were in a position to appropriate the riches of the country to themselves even while the rest of the nation lived in poverty. For instance, the people of Cuba, North Korea, and Iran are veritable economic slaves to their political masters. Recently, people in several Middle Eastern countries have sought to emancipate themselves from this economic slavery, in what has been dubbed the Arab Spring, by using the only means that works against a government that seeks to profit from them but to offer them little in return — violence. After all, violence is what allows politicians and armies to dominate a population and to profit from them. Anyone who is willing to use violence can take advantage of a country, if the people cannot oppose it. Of course, in today's economies, they could start a business and become rich, but dictators do not know how to do that. They know how to use violence, or the threat of violence, and so that's how they appropriate their wealth. In these countries, the common people have no choice, but to use violence in return or to suffer indefinitely.
In the United States and other developed countries, much more civilized methods are used, but it still causes considerable inequality. Instead of violence, the wealthy can use their money to influence politicians, and the Republican Party is the result of that influence. That is why taxes on investments and gratuitous transfers are so low — it is a way to give big tax breaks to the wealthy without giving them to poorer people.
Because of their influence, the wealthy can also take advantage of the many tax loopholes that Congress has added to the tax code for them. As already mentioned above, Newt Gingrich, who was one of the contenders for the 2012 Republican nomination, uses an S corporation for his consulting business. This allows him to save on the Medicare tax that would otherwise apply to his income because he can receive part of his income as dividends from the corporation, which are not subject to employment taxes. Indeed, if he did not make so much money, he would also save considerably on Social Security taxes, but since Gingrich makes well over the Social Security wage base limit, he doesn't have to worry about that — just the people that have to make ends meet. Of course, many professionals use an S corporation to reduce employment taxes, but that option is not really available for most employees, since they would have to have a business. And yet, for professional organizations, they are basically doing the same work as they would if they were an employee or if they operated as a sole proprietor.
When the Republicans say "No new taxes!" what they really mean is no new taxes on the wealthy. The wealthy got a good deal under the George W. Bush administration and that is why they made a promise — not to the American voters — but to the lobbyist Grover Norquist not to raise any taxes. However, the only reason why they say they will not raise taxes at all is so that they could protect the tax benefits that the wealthy received under President George W. Bush. They can't really say no new taxes on the wealthy, because then it would be obvious what their real concern is, but since we purportedly live in a democracy, it would not be politically viable for the Republicans to admit that they just want to protect the wealthy from their fair share of taxes.
Nonetheless, that did not prevent the Republicans in the House of Representatives to balk when they were asked, in 2012, to extend the 2% reduction in Social Security taxes so that people would have more money to spend, to stimulate the economy. They finally relented after realizing that their political viability may have been threatened by the fact that they were not willing to vote for a tax decrease for ordinary Americans. On the other hand, their hearts probably would've pitter-pattered if President Obama had asked them to vote to eliminate the taxes on investments and estates.
Look at it this way. The Republicans do not want to tax inheritance or investment income, income that mostly accrues to the wealthy. What that means, perforce, is that they want the entire burden of income taxes to be on working income, the very money that most people need to buy life's essentials! Furthermore, these people will have to pay regressive sales and excise taxes on many of their purchases, thereby increasing their tax burden even more, since these taxes will constitute a greater percentage of their diminished disposable income. Moreover, many states assess flat taxes that are a fixed percentage of income, regardless of the income, and many municipalities within the state even charge a lump sum tax, which is especially regressive. Although, sometimes, low incomes are exempted, the amount of income that is exempted is very low indeed. For instance, in Pennsylvania, most of its municipalities believe that if you earn $12,000 per year, you are rich enough to pay their tax.
The Best and Biggest Government Handout — Lower Tax Rates on the Wealthy
The Republicans have been constantly complaining about the Democrats' attempt to redistribute the wealth from the rich to the poor. Of course, Republicans will complain about this — they want to continue to redistribute the wealth from working people to their wealthy benefactors, as has been the policy of the United States since the inception of the income tax in 1913. Although marginal tax rates have been much higher in the past, there were always plenty of tax loopholes that the wealthy could exploit to reduce their effective tax rate. Nonetheless, the tax code effectively redistributes the wealth from working people to the wealthy. Indeed, it can be considered a huge handout to the wealthy. This is easier to see with a hypothetical example:
Suppose that there were just 2 groups of taxpayers, Group A and Group B, who were both taxed at 50% of their income. Now suppose that Group B convinces Congress to lower their own taxes so that they pay an effective tax rate of 25%. Since the government needs all of the revenue that it has been receiving, it will need to increase Group A's taxes to compensate for the lower tax rate on Group B. Is this not redistributing the wealth from Group A to Group B? So, if the rich are paying a lower effective tax rate than working people, is this not a redistribution of wealth from working people to the rich?
Now let's change the above scenario slightly. Instead of lowering the effective tax rate on Group B, Congress decides to collect its taxes from both groups, but then just gives half of the money collected from Group B back to Group B. Note that this has the same effect as the above scenario — Group B gets to keep more of their money. But in this scenario, isn't Group B receiving a handout from the government? But instead of food stamps or welfare, Group B is getting the greatest benefit possible — money, which, in many cases of individual taxpayers, is worth millions of dollars!
Now consider a real tax example: in 2014, a taxpayer works to earn $5.34 million, while another taxpayer receives $5.34 million as an inheritance. The taxpayer who worked would have to pay about one third of his income in taxes, or $1.75 million, while the taxpayer who received the inheritance pays 0. So here is a real example that conforms to the actual tax code, where the beneficiary receives the equivalent of a $1.75 million handout from the government — this is to a single individual! And the Republicans are complaining because some people are receiving about $133 per month in food stamps?
But wait a minute! Wasn't Mitt Romney secretly recorded as saying that 47% of Americans will vote for Barack Obama because they depend on handouts from the government, because they don't take responsibility for themselves? And yet, isn't forcing lower income people to pay higher effective tax rates than wealthy people a handout to the wealthy? And wouldn't more of those lower income people be able to take greater responsibility for themselves — to not be so "dependent on the government" — if so much of their hard earned money was not taxed away by the government? Indeed, is not the amount of these handouts to the wealthy in the form of lower effective tax rates far more valuable that any handouts to welfare mothers, to Social Security recipients, or to combat veterans who risk their lives? And if the poor were permitted to keep more of their money, wouldn't that money be far more valuable to them than it is to the wealthy? So why do we let this continue?
Consider this: in actuality, there is a tax assessed on gifts and estates. The reason why, as of 2014, the 1st $5.34 million is not taxed is because each taxpayer is given a unified tax credit, adjusted annually for inflation, that, in 2014, was equal to $2,081,800! Imagine that! A credit of over $2 million given to individual wealthy taxpayers, who do not need the money, but the Republicans cry when families receive food stamps or when people receive the premium tax credit so they can afford health insurance.
Which Way Does the Money Trickle?
In the 1980s, the Republicans were promoting supply-side economics, arguing that the wealthy should be permitted to keep more of their money, because the money would eventually trickle down to the poor. Well, it doesn't really work that way, but the Republicans will present any argument that you are willing to buy. Whether the argument is true or not doesn't matter. What matters is if the Republicans can bamboozle you into accepting their arguments, so that they can get your vote.
I have a proposal. Give the money to the poor and let it trickle up to the rich! After all, that's how it actually works, isn't it? The poor receive more money, which they use to buy goods and services from businesses, and since businesses are mostly owned by wealthier people, the money actually trickles up to them. On the other hand, how does the reverse work? When they receive money, the wealthy pay over $100 million for a painting by a dead artist. How does that improve the economy? Or they invest in hard assets to protect their wealth against inflation, thereby increasing the prices of those assets, thereby increasing the prices that poorer people have to pay for goods. Or they can invest the money in businesses. But as any business owner will tell you, it is hard to profit from a business when you have no customers, which has been effectively demonstrated by the Great Recession.
Reducing the $16 Trillion Deficit
The financial crisis has plunged the United States and the rest of the world into what is being called, because of its severity, the Great Recession. Economies run on their own cycle, regardless of who is president, because most of the factors affecting the economy are beyond their control. When recessions do occur, it takes time for them to reach bottom and to recover, and the deeper the recession, the longer it takes to recover from it. When Obama became president, the economy was still contracting, only reaching bottom in the middle of his term. The United States is currently on an upswing and it will continue to improve whether Obama or Romney is elected. President Obama, for the most part, has done the right thing. He needed to increase the deficit because no one was spending any money. Many people were in debt, and it takes time to pay off that debt, as anyone knows, and if they are paying off debt, then they cannot spend money for discretionary products and services, which is a major reason why the economy contracted and why it is only slowly recovering. Furthermore, businesses will not invest or hire if they have no customers, and if they are not hiring, then the economy contracts even further. Hence, Obama had to increase the deficit to stimulate the economy.
Nonetheless, this has not prevented the Republicans from repeatedly criticizing Obama for increasing the deficit, even though their plan of slashing both spending and taxes does not make much sense, which is why Romney has not provided any details about his deficit reduction plan before the election. Obama had to increase the deficit because only the federal government was in a position to spend money to stimulate the economy. The necessary borrowing has increased the deficit dramatically, but without the stimulatory spending, the United States would have plunged into a deeper recession. It would not have been so bad had Bush not borrowed money so that he could give big tax breaks to the wealthy. Borrowing money should only be done to handle a financial crisis, not to give handouts to the wealthy, who already have much more than they need.
Are the Republicans serious about the deficit? Apparently not. It has been widely publicized that the Republicans have said that they are not willing to increase taxes by $1 even if it reduced the deficit by $10. Plainly, the Republicans main objective is to protect the wealthy from their fair share of taxes, not to decrease the deficit. They do have some concern about the deficit, since they know that if it increases too much, the wealthy will be called upon to pay their fair share.
Indeed, the top 1% of the wealthy earns almost 20% of the gross national income. That's almost $3 trillion annually. If they were forced to pay at least 50% of that income in taxes, the $16 trillion debt could be eliminated by just the tax on the upper 1% in 11 years. Even paying 50%, these 1%-ers will still have plenty of money to buy whatever they want or need, and it would only be just, considering the lower statutory rates on their income and the many tax loopholes that they have exploited. Anyone who is really serious about wanting to reduce the deficit would certainly be looking to the wealthy as a means of paying down the debt.
Many tax experts agree that Romney's plan is unrealistic, so at some point, if he were to become President, he will have to raise taxes. But how will he do that? The wealthy have spent enormous sums of money for his election to protect their big tax breaks. Therefore, there will be tremendous pressure on Romney to not increase taxes on the wealthy, so if it does become necessary to raise taxes, he will almost certainly try to raise them on the lower-income people.
The lower-income people will also suffer from spending cuts, because not only do tax cuts to the wealthy not stimulate the economy, but the spending cuts that would be instituted by Romney would have a contractionary effect on the economy, since it would eliminate many jobs.
The upshot of all of this is that regardless of how much spending is slashed, if the wealthy do not pay their fair share, then poorer people will have to pay more than they would otherwise have to. Now that the deficit is slightly over $16 trillion, attempting to reduce it without the wealthy paying their fair share will be a long slog.
A Simple, Fairer Tax System
Technology will make it easier for a few individuals to make ever more money, and it seems that the Republicans want to ensure that they will be able to keep more and more of their wealth at the expense of everyone else. Although trying to ensure a fair government is a long shot, a good way to start is with the tax laws, since those laws affect almost everyone. It is the major reason why the rich are getting richer and the middle class and the poor struggle to make even small gains. Of course, both Democrats and Republicans are responsible for the tax laws, and no doubt the tax laws, especially regarding inheritance, are so because most members of Congress benefit from them. Many members of Congress come from wealthy families and even if they are not wealthy when they begin office, they will become wealthy by being a member of Congress. So, many of them have received or will receive a large inheritance and virtually all of them will have a large inheritance to bequeath.
A simpler and fairer tax system would be a marginal tax on all income. This differs from the Republican proposal for a flat tax system in that it would apply to all income, including investments and inheritance. By assessing a graduated marginal tax on all income, most loopholes can be closed, the poor would have more money to spend, which would stimulate the economy continually, even during recessions, and the poor would be less dependent on what the rich like to call "government handouts".
There have been various proposals for a more equitable tax system. Some have argued for a value-added tax (VAT), which is prevalent in Europe. However, the VAT, like sales and excise taxes, is regressive, in that it puts a greater burden on the poor. The Republicans have argued for a flat tax, but, alas, one that applies only to working income. Surprise! Furthermore, the flat tax as proposed by the Republicans would not apply to employment taxes, and it would lower the top rate on wealthy people. Surprise again!
I propose a marginal tax that applies to all income, regardless of its source, and that the tax be the only tax on income – no separate employment taxes. After all, that would be double taxation! And aren't the Republicans against that anyway? And is it fair that people who have to work past retirement age should have to continue paying employment taxes while other people collecting fat pensions only have to pay the ordinary income tax? And many states and municipalities tax work, but not pensions. Eliminating employment taxes would reduce the cost of labor to employers and increase the money received by the suppliers of that labor, thereby motivating more people to work while eliminating the deadweight loss of employment taxes. Instead, Social Security and Medicare should be paid out of the general tax revenue. Everyone should receive the same amount of Social Security, so that nobody falls through the cracks, and if people want to do better, then they can do so through private retirement accounts.
I think all deductions should be eliminated except for those expenses that are ordinary or necessary to produce income or to help low income families. I also believe that the estate tax should be replaced with an inheritance tax, since the rate on the inheritance tax can be proportional to the beneficiary's income. Under this system, the wealthy really will be paying a larger percentage of their income in taxes, and the poor will have much more money available to buy the essentials of life. Furthermore, the poor will serve as the automatic stabilizers of the economy, since they must continually spend money to live.
Although the main concern of the Republicans is for the wealthy, this is not to say that many Democrats also pass legislation beneficial to the wealthy or to other special interests, such as lawyers or unions. Unfortunately, we do not live in much of a democracy, since we are often forced to choose between extremists chosen by the parties' primaries, reducing the general election to a choice of the lesser of 2 evils. However, taxation is something that affects all of us, and I believe that the tax system in the United States is very unfair, so this should be the main concern of most taxpayers, and it probably would be if most of them better understood how the tax system works.
The Republicans advance many arguments to try to justify the status quo, but all of these arguments are specious. They argue that high taxes kill jobs. That's true, high taxes on lower income people do kill jobs, but not high taxes on the wealthy. President Bill Clinton raised the top marginal tax rate to 39.6%, and yet, the economy boomed from 1994 to 2000. They argue that taxes on investments will reduce investments. They will, somewhat. But what about taxes on work? Doesn't that reduce the incentive to work? Remember, only work increases the wealth of society. Investments can only increase the wealth of society if it puts somebody to work – otherwise it would have no effect. Furthermore, the wealthy will still continue to invest, because what else are they going to do? If they hold cash, it will lose value through inflation.
Right now, the United States is deeply in debt. George W. Bush received a budget surplus from President Clinton and proceeded to plunge the country into debt so that big tax breaks could be given to the wealthy. Of course, 2 wars have added to this debt, but the country would've been much better off if Bush did not give the big tax breaks to the wealthy. As a consequence of these tax breaks, the top 1% are becoming ever richer and the bottom 99%, as a result, are becoming poorer.
The Republicans propose to drastically reduce spending, but not on the military. They want to eliminate Social Security and Medicare and replace them with private systems. They want to get rid of the Affordable Care Act, which the Republicans have dubbed as Obamacare, because they realize that it will probably lead to higher taxes on their wealthy benefactors. Of course, many people, especially those with pre-existing conditions, will not be able to afford healthcare otherwise, but the Republicans don't care about those people — they only care about the wealthy.
The Republicans have made it clear that they are not going to increase taxes on the wealthy no matter what. Not only are they not going to increase taxes on the wealthy, but their objective is to lower them, but they will still claim that they will eliminate the huge deficit. How are they going to do that? They haven't revealed any details, since the plan probably is not realistic anyway, but it would probably involve eliminating as many payments and tax breaks to the poor and middle class as possible, and at some point, they will seek to increase taxes on the 99%. How else are they going to do it?
As the Republican nominee for President, many people are requesting to see more than the 2 years of tax returns from Mitt Romney that he has so far released. Mitt Romney doesn't want to release any more tax returns and he has filed an extension for his 2011 returns, which is a convenient way to delay showing Americans how little he pays in taxes. He says that the fuss about his taxes detracts from the real issues affecting the economy. But I would say that the hefty taxes that most people have to pay are the most important issue today, since it has a direct impact on their standard of living. And as I have argued above, letting poorer people keep more of their money would have a much greater stimulating effect on the economy than any other scheme contrived by patronizing politicians. Romney says that people are not interested in his personal taxes. Well, I can tell you what Americans are really interested in: How is it that a man who makes tens of millions of dollars annually legally pays a lower effective tax rate than someone whose income is only slightly above the poverty level? That's the real question!
There is a reason why the Republicans are called conservatives, because they want to maintain the status quo. The tax system has always favored the wealthy, even when marginal tax rates were very high, because there were plenty of tax loopholes that either greatly reduced the effective tax rate or even eliminated taxes for many of the wealthy. Since the wealthy are getting a pretty good deal under the current tax system, many of them want to continue that system.
And what about the many people who cannot afford medical insurance, a decent place to live, or even food? The Republicans don't care about them — they never have! If the Republicans throw a few crumbs to the middle class, or even to the poor, it is only to get their vote so that they can remain in office, where they can vote against the economic interest of most of those who put them in office. There is an old saying that you cannot fool all the people all the time. In politics, you don't have to. Evidently, it is good enough to fool most of the people most of the time!
It is easy to summarize the whole Republican tax policy simply. There are only 3 types of income: working income, investment income, and gratuitous transfers. The Republicans believe that neither investment income nor gratuitous transfers should be taxed. Therefore, perforce, the Republicans believe that working people should pay all of the income taxes. And that is the Republican tax policy in a nutshell.