The thrust of this post is wrong; while I'm looking for a good breakdown of tax burden by quintile I'll just observe:
"We live in NYC and according to our accountants, we pay a marginal fully loaded tax rate of 47.62%. That means we keep about half of the ordinary income the Gotham Gal and I generate." The second sentence glides over the key word in the first sentence, "marginal". AVC and GG pay much lower rates on the first income they earn during the year -- it is only the income that exceeds what most people will ever earn during a year that is taxed at the higher income rate. Conversely, the first income -- the income they have in common with ordinary people -- is subject to social security and unemployment tax -- but the extraordinary income that makes them very wealthy is not. They also probably pay much less of their income in sales tax and small fees that most Americans.
Finally, according to the IRS in several recent years 10% of the capital gains income in the entire country has gone to the richest 400 tax payers, whose average tax rate is not the 47% rate AVC cites, but 17%: http://krugman.blogs.nytimes.com/2011/04/30/who-benefits-fro...
Yes, instead of paying taxes directly, the corporations owned by those 400 taxpayers paid taxes on profits (15-35%). Then their owners paid an additional 15-35% tax on those profits (averaging out to 17% for the top 400).
I agree - we should make it fairer. We should eliminate taxes on corporations and replace it with taxes on their owners. It's unfair that the owners of corporations are taxed at such high rates, but the taxes they pay are ignored by journalists and propagandists.
When dealing with corporate tax rates one should talk about effective tax rate. There are quite a few examples of corporations paying very little tax on their profits. Some even pay zero tax whilst making billions in profit.
I believe that the effective tax rate on U.S. corporations is roughly the industrialized nation average. Having no corporate tax would make the U.S. an outlier in terms of tax policy. This doesn't make it unsound but does make me hesitant to agree with you on this point. Are the tax policies of most nations unfair to corporations? I have a hard time believing this to be so.
Imagine a business with one owner. The owner employs 5 workers. Shouldn't the business pay tax on the profits? Suppose the business owner makes a profit of $100,000. Should this be tax free because he/she owns a business? If the business owner made $100,000 while working at 3M then the salary (profit) would be taxed.
I think the philosophy under girding the tax system is that, roughly speaking, any entity that gets money [edit] should pay tax on it. This seems fair to me.
There are notable exceptions of course. If I find $5 million dollars in gold while on a walk I pay tax on the whole amount. If I get the money because someone died I don't.
Some even pay zero tax whilst making billions in profit.
Yes, typically because they lost billions in prior years. Sometimes also due to various tax subsidies (e.g., green energy tax credits in the case of GE).
Are the tax policies of most nations unfair to corporations?
I didn't say it was unfair to corporations. I don't believe that a claim like "unfair to corporations" even makes logical sense.
I said it was unfair to their owners. Consider your hypothetical business owner. Out of the $100k in profits, the business pays perhaps $20k. The business owner then pays another $15k. But then people trying to score political points complain that he is getting away with something, and paying only $15k on $80k (19%). I think that's unfair.
Under my proposal, the business pays $0k and the owner pays $35k. This way, he gets to take (moral/political) credit for the taxes he pays just like a salaried employee. (Similarly, I favor eliminating payroll taxes.)
In the example provided, the business does not pay tax on the $100,000 given to the owner (as salary or other form of compensation) as that is an expense of the business. The business only pays tax on the profits to the business (as an entity separate from the owner).
There is nothing illogical with the phrase "unfair to corporations". A corporation is a person in the U.S. Is is it illogical to say, "unfair to people"? It can be said of a policy that it is unfair to corporations. Suppose the only entities that were taxed were corporate entities. In such a case one would reasonably say that the tax structure was unfair to corporations.
Owners of a corporation are stock holders. They make a profit on their holding via dividends and selling the stock at a higher price than what they bought it for. I disagree that it is unfair to a stock holder to pay taxes on the dividends received or on the capital gains. I believe it is a sound principle - for the maintenance of consistency, which is what fairness really is about in this issue - that entities that make a profit pay tax on it.
You are conflating salaries and dividends. The business doesn't pay tax on $100k salary (it's an expense) and the owner pays ordinary income tax on that. The same is true for pass-through corporations, which make up a large fraction of the profitable corporations that pay no taxes.
The business does pay tax on profits and spends after tax dollars distributing dividends to shareholders. Similarly, after tax dollars contribute to a corporate valuation which enables owners to sell shares and take capital gains.
A corporation is a person in the U.S.
The term "person" has been overloaded and you are conflating different uses of the term. A corporation is a legal person, which means they can enter contracts, file lawsuits and be sued. This provides a common interface for counterparties, nothing more.
A corporation is a set of assets, liabilities, a web of contracts governing the management of said assets/liabilities and a government guarantee of limited liability. I can't see how it makes sense to discuss whether something is unfair to my company. Similarly, it makes no sense discussing whether something is unfair to my cell phone and service contract.
I disagree that it is unfair to a stock holder to pay taxes on the dividends received or on the capital gains.
Me too.
All I said is that it's unfair to tax profits to the tune of $20k, dividends to the tune of $15k, and then pretend the owner of the corporation is only paying $15k in taxes.
If you want to discuss the taxes paid by the top 400 taxpayers in the US, include the corporate taxes paid by the companies they own.
In my example the $100,000 was salary. When you wrote:
"I said it was unfair to their owners. Consider your hypothetical business owner. Out of the $100k in profits, the business pays perhaps $20k. The business owner then pays another $15k. But then people trying to score political points complain that he is getting away with something, and paying only $15k on $80k (19%). I think that's unfair."
I thought you were talking about salary. Sorry for the confusion.
I can't think of an example where it makes sense to say, "that isn't fair to your cell phone". I can think of lots of examples where it makes sense to say, "that isn't fair to cell phone providers [companies]".
Imagine a business with one owner. The owner employs 5 workers. Shouldn't the business pay tax on the profits? Suppose the business owner makes a profit of $100,000. Should this be tax free because he/she owns a business? If the business owner made $100,000 while working at 3M then the salary (profit) would be taxed.
You are missing the exact point.
If this business were owned as a sole proprietorship, then the owner would indeed claim the $100,000 as income and be taxed on it.
If the business were owned as a C-corporation with only one shareholder, then the business would pay corporate taxes on any profits. Then, if the owner wants to have immediate access to those profits, she needs to distribute them to herself as a dividend. She would then pay taxes AGAIN, on the same income, since dividends are taxable.
So, the second entrepreneur, just by virtue of owning a corporation, could be subject to a higher tax rate for the same income.
That said, if one were to entirely eliminate the corporate income tax, then it would be all too easy to stockpile gains inside a corporation and let them compound tax-free until withdrawal, which would be a pretty nice tax shelter.
Suppose the owner pays herself $100,000 in salary and the business has, after this expense and all other expenses, $20,000 in the bank. The business then pays tax on this $20,000. Any entity that makes a profit pays tax on it (roughly speaking). This is consistent and fair.
If the business (as an entity separate from the owner) decides to pay a dividend then whoever gets the dividend pays a tax on the money. Suppose the business decides to give me a dividend of $20,000 and I have nothing to do with the business. Shouldn't I pay tax on it? There shouldn't be a distinction on who gets their dividends taxed. A dividend is a dividend.
If the owner wanted $120,000 in salary then the owner should have paid herself $120,000. If she decides to give me a $20,000 dividend then I should pay tax on that dividend. If she decides to give herself a dividend then I she should pay a tax on that dividend. A dividend to herself is no more worthy of a tax break than a dividend to me.
In the interest of consistency (fairness) the guiding principle is that an entity pay tax on money it gets after expenses. It also makes things easier.
Suppose the business decides to give me a dividend of $20,000 and I have nothing to do with the business.
Your statement is not logical. A business can't just "decide" to pay a dividend to random individuals. A dividend, by definition, is a distribution of profits paid to the stockholders (owners) of the corporation. So, anyone who gets a dividend is, by definition, an owner of the business!
OK, I should have used a different word than dividend. I should have used "disbursement of funds from the profits made". The point still stands as do the other points I made.
When one person receives income and pays tax on it, and then spends that income, so that it becomes income for someone else, it is not double taxation that the second person pays tax.
Corporations are legally distinct persons, separate from their owners, so the situation is essentially the same.
If the owners wish to avoid this, they can structure their business so that it is not a C corporation. Of course, then they give up many of the advantages of having the corporation be a separate person legally.
One thing the richest people are VERY good at is paying themselves. If double taxation of capital were a problem, they could solve it by paying themselves salaries instead. They don't. I'm speaking of the executives here, of course. A bunch of those 400 richest got where they were by having 23 chromosomes donated by a CEO. The record of personal achievement by heirs is decidedly mixed.
I understood this sentence, and I think it's the most likely explanation, that the total tax pressure is 47.62%. That lower brackets are taxed lower doesn't matter. As one makes more, the total tax pressure will approach the tax rate of the highest bracket; in other words, if the lower brackets are a marginal amount of the total, the lower brackets don't matter very much are more.
I'm just waiting for someone to calculate his total gross income last year from that figure. Some journalist from the NYT living in the Netherlands did a long article on the Dutch tax system a while ago, expressing surprise at the total tax percentage he paid. He was quite surprised when I emailed him back with a calculation illustrating the errors in his article, and at the same time deriving his gross income (which was only just within the highest tax bracket, 52%, btw - so his complaint how he was 'paying more than half of his income in taxes! omg!' was totally wrong).
That said, I don't think this error was made in this article, and that the 47.62 is the net, effective tax burden.
The major problem with the much cheaper taxing of capital gains remains the growing inequality: Of every you dollar you earn through your own labor, you get less (until you pass the max threshold). And this while your capacity of personal labor is clearly somehow limited. On the other hand, people earning one million dollars from capital gains are taxed equally with people who earn one billion.
There are two counterpoints to this. The first is that capital gains taxes tend to be on investments made with income you've earned, so there's already been an income tax. The second is almost all of the uber-rich made their fortunes by growing a small company into a big one, so it's not as though they're already being taxed (through progressive corporate taxes).
There are obvious flaws to this scheme, but it's pretty hard to tax income in a fair way. Some places (notably the EU) favor using a consumption tax instead.
> The first is that capital gains taxes tend to be on investments made with income you've earned, so there's already been an income tax.
I don't really get this counterpoint; isn't everything in the economy a flow of money that has been taxed at a previous point in the flow? If I have $100,000 that I've already paid taxes on, I could invest it in external assets and hope to make capital gains on them; or I could plow it back into my own occupation and use it to generate income (say, by setting up an art studio). Why should I pay more taxes in the second case?
Consider two eBay-painting-seller scenarios. In the first, I buy painting materials, paint paintings, and then sell them on eBay. In the second, I buy existing paintings on eBay that I think are underpriced, and then resell them later for a profit. Why should I pay more taxes in the first case, just because I painted the paintings? In both cases my occupation is basically "selling paintings on eBay", but in one I'm creating new ones and selling them for an income, and in the other I'm flipping existing paintings, making a capital gain. In both cases the starting capital is money I've already paid taxes on. If anything, the first occupation seems like the one policy should encourage, rather than the second, but at the very least I don't see any reason to actively encourage the second version over the first.
The outlays being tax-deductible is the same in both cases: you only pay tax on the gains between what you put in and got out, not on the total revenue. If you spend $100k on art supplies and sell $110k in paintings, you pay taxes on the $10k net profit. Same as if you bought a bond for $100k and sold it for $110k; you only pay taxes on the $10k net gain.
But in the second case, you're taxed at a lower rate, so the tax code appears to want to discourage you from investing your capital in your own work. If you ever find yourself in a situation where you could make a 10% return on capital by putting that capital to work yourself, or could make the same 10% by putting that capital into a passive investment, the tax code promotes the 2nd option.
I think the idea of double taxation is a bogus one. When I get money from an entity or process or by working there is no reason to consider whether or not the source of the money has paid some tax in some context. From the perspective of the person receiving the money the only thing that matters is that you got the money.
I pay income tax. With the money left over, after paying the tax, I buy things. I pay tax on the things I buy even though the money has been taxed, so to speak. Suppose I buy something from the place I work at. The money I'm spending to buy the object has been taxed multiple times and part of that money ends up back in my hands. You just can't realistically distinguish between the myriad ways that money has been previously taxed.
not saying if this is right or wrong, but with dividends at least, they are taxed first at the corporate rate and then again when they are distributed as dividends.
Increases in equity on average, but not in the short term, coincide with accumulation of shareholders equity via retained earnings.
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they are taxed first at the corporate rate and then again when they are distributed as dividends.
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Really? Well that sucks. What logically should happen is if you receive dividends and the company already paid 30% tax on it, and your personal tax rate is 45%, you should pay only the extra 15% tax. (And it does happen over here in Australia).
Otherwise what you get is that companies, in shareholder's interest, try not to give out so much dividends because they will be taxed twice. Instead they keep the cash to boost the share price so shareholders make capital gains.
You'd ask, what is really the point of buying stock in a company that will never pay dividend in its lifetime?
You'd ask, what is really the point of buying stock in a company that will never pay dividend in its lifetime?
They can distribute profits via share buybacks. Instead of distributing 1% of the companies value as dividends, they can buy back 1% of shares. You then have the option of selling 1% of your shares back (equivalent to taking dividends) or keeping your shares (equivalent to reinvesting dividends).
This only works if you are a big shareholder - if you are a small time player on ETrade, transaction costs will kill this idea.
That's in practice what happens, but it does make for a bit of strangeness from the perspective of fundamental valuations. At least in idealized theory, a stock is worth the time-discounted value of its future dividends plus any terminal liquidation payout (if the company eventually gets sold for cash). A share buyback increases the share of a company that a given stockholder owns, by getting rid of some of the other outstanding shares. That should make the share more valuable, because it's now entitled to a larger percentage of those future earnings... but raising the percentage of future earnings you're entitled to is only valuable if there are any! So either there have to eventually be some dividends or a cash sale, or else we have to abandon that view of valuation as having any tie to future earnings.
"What logically should happen is if you receive dividends and the company already paid 30% tax on it, and your personal tax rate is 45%, you should pay only the extra 15% tax. (And it does happen over here in Australia)."
I was skeptical of this claim but Wikipedia confirms - that's an interesting scheme. It basically eliminates taxation as a decision factor in incorporating a company or not. That's interesting, I never heard of such a construct before, although it's quite obvious.
In most of Western Europe, there are different rates for dividend and income tax. So if you own a company, the company first pays e.g. 20% 'profit tax' on it, and then you pay 25% on the dividends; in the end, roughly coming out to the same marginal highest tax bracket for the income tax.
47.62% is the top marginal fully loaded tax rate on ordinary income. That is, 35% individual federal plus 8.97% state tax plus 3.88% city, less rounding and maybe a few dollars of unused credits. This is the rate on the next dollar of ordinary income (and the number you use if you wish to maximize your claimed tax rate). The claimed capital gains number of 27.63% is 15% plus that same amount for state and local taxes, which do not treat capital income differently (the .62% on the end of both is the giveaway). Neither of these numbers is an effective tax rate (=tax actually paid/pretax income), or "tax pressure," whatever that is -- at my guess, Mr. Wilson probably pays effective tax in the 30-40% range, depending on how much capital gains he realized in the year.
On capital gains rates generally, tax does work on the margins, but this means that we should worry about what kind of investments are incentivized by lower capital gains rates. I seriously doubt that a Mr. Wilson taxed at the regular income rate for capital gains would put even one fewer dollar into his fund, making 20+% pretax, if his other choice were, as he says, the mattress making 0%. Even at equal income and capital gains rates, the incentive to maximize your returns is pretty strong, so the idea that the differential rate is changing behavior in a useful way needs more analysis than Mr. Wilson gives it.
For corporate taxes, effective rates are indeed what matters when comparing tax burdens since corporations get such a variety of credits; that said, the fewer deductions/lower rates tradeoff is free economic growth and we should do it (it'll never happen, though, since congress is too dysfunctional).
And last on "double taxation": gopi is right that most corporations are organized as passthrough entities -- they pass all income through to their owners, who then pay tax on it. Those that aren't do have lower taxation of dividends to make up for the equivalence of share buyback and dividends.
Most of the small business in US are pass thro entities so they pay ordinary income tax rates and also they reinvest the money back into business. They are inherently non-scalable business so the owners don't realize wealth by selling the business instead they get it thro the profits from operating the business... IMO, its not ethical that his tax rate is double than that of a tech entrepreneur or a wall street hedge fund guy.
My personal preference would be a lower overall rate (25%) with no deductions for both ordinary income and capital gain. For a brief time in US history (in the Reagan administration) this was the case and from what i read it never discouraged capital investment.
> And when you go to the pay window [...], you will be sharing a lot less with the government and keeping a lot more.
Ever used a road? Or went to a public school? Do you have a local library? Your tax money doesn't go to the government, it goes to the state. And yes, the state has an expensive administration, but by and large the state is all of us.
Roads are paid for with gas taxes, something that is hard to avoid if you drive. Public schools and libraries are supported by property taxes, again, something all residents pay. Income taxes primarily go to the federal government to pay for military bases abroad, wars, and a lot of other functions that either aren't needed or could be better done by non-government entities.
Interesting. In Germany, the law states that taxes can't be bound to a certain goal. Taxes all go to a big budget basket, which is then allocated by the year budget. It means that the oil tax can finance school, military, or anything.
Most of your taxes to the federal government actually get spent for Medicare, Medicaid, Social Security, Defense and Interest expense.
Unfortunately, just Medicare, Social Security and interest expense cost over 2.4 trillion dollars. And yes, that's more than the 2 trillion that the government makes... And we haven't even paid for the actual services and defense!
"We live in NYC and according to our accountants, we pay a marginal fully loaded tax rate of 47.62%. That means we keep about half of the ordinary income the Gotham Gal and I generate." The second sentence glides over the key word in the first sentence, "marginal". AVC and GG pay much lower rates on the first income they earn during the year -- it is only the income that exceeds what most people will ever earn during a year that is taxed at the higher income rate. Conversely, the first income -- the income they have in common with ordinary people -- is subject to social security and unemployment tax -- but the extraordinary income that makes them very wealthy is not. They also probably pay much less of their income in sales tax and small fees that most Americans.
Finally, according to the IRS in several recent years 10% of the capital gains income in the entire country has gone to the richest 400 tax payers, whose average tax rate is not the 47% rate AVC cites, but 17%: http://krugman.blogs.nytimes.com/2011/04/30/who-benefits-fro...
Edit: here's total tax distribution by quintile: http://curiouscapitalist.blogs.time.com/2009/01/07/moving-fr... . Note that the 34.5% paid by the richest 20% drops sharply for the very richest.