Warren Buffett's Shareholder Sophistry

Warren Buffett's Shareholder Sophistry
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In a political backdrop marked by both the passage by Congress of the American Health Care Act (“AHCA”) and the looming debate about President Trump’s federal tax proposal, Warren Buffett waded into the political arena at Berkshire Hathaway’s recent shareholders meeting with some pronouncements regarding federal tax and health policy.   Consistent with his previous forays into politics, Buffett’s statements were steeped in inaccuracies and sophistry, indicative yet again of an individual with an ideological agenda to further, rather than someone seeking and speaking the truth.

Buffett said this to Berkshire Hathaway’s shareholders:

“If you go back to 1960 or thereabouts, corporate taxes were about 4 percent of GDP,” Mr. Buffett said. “I mean, they bounced around some. And now, they’re about 2 percent of GDP.”

By contrast, he said, while tax rates have fallen as a share of gross domestic product, health care costs have ballooned. About 50 years ago, he said, “health care was 5 percent of GDP, and now it’s about 17 percent.”

The corporate tax and healthcare trends Buffett alludes to appear to be rather straightforward on the surface.  But things are not always as they seem, especially when it comes to political and tax pronouncements emanating from the Oracle of Omaha.

Let’s take a deeper look.

It is true that aggregate corporate taxes have come down as percent of GDP by roughly half since 1960.  But the primary reason for this decline has nothing to do with a lessening of the tax burden borne by corporations, as Buffett infers.  Rather, this decline is almost entirely attributable to a massive shift that has taken place over the years in the type of legal structure under which American business entities are organized.

Corporate inversions, such as Burger King’s (a Berkshire Hathaway company!) 2014 acquisition of Canadian chain Tim Hortons, also contributed to this decline.

Since the advent of S corporations in 1958, more and more U.S. businesses have been set up as (or reorganized into) “flow-through” entities.  In a flow-through entity, taxes are not paid by the business entity, but rather, taxable income (or losses) generated by the business passes through to its owners and is taxed on their individual tax returns.  Traditional C corporations, on the other hand, pay corporate income taxes at the corporate level; shareholders then pay taxes on their individual returns for any dividend income they receive from the C corporation.  It is the avoidance of this double taxation incurred solely by C corporations and their shareholders that has been the impetus behind the shift from C corporations to flow-through entities such as LLCs, LLPs, and S corporations.

In 1980, 68% of total taxable income generated by business enterprises came from C Corporations.  By 2012, this percentage had declined to 37%.  Based on an analysis of IRS data over this same time span, I estimate that C corporation taxes would have been over $250 billion higher in 2012 (than the amount  actually paid) had this shift not taken place, a figure representing roughly 1.5 percent of 2012 GDP.  As such, this entity-shift phenomenon (over only a portion of the years Buffett compared) explains away roughly 75% of the decline in corporate taxes (as a percent of GDP).  Of course, this reduction in corporate taxes was offset by increased taxes paid (at the individual level) in 2012 by the owners of the flow-through entities. 

In his 2016 primary campaign, Democratic (nee socialist) presidential candidate Bernie Sanders made the same bogus claim about corporate tax levels, except he used comparisons of corporate taxes as a percent of federal tax receipts over time (from 30% in the 1950s to 11% in 2015!) in his version.  It is one thing for Sanders, an economic illiterate, to make this fallacious claim, but there is quite simply no excuse for someone of Buffett’s stature to engage in essentially the same intellectual dishonesty in order to make a political point (and, in doing so, mislead his shareholders).

Buffett has historically downplayed the impact corporate taxes have on investment decisions.  I believe he is wrong in that regard, and I strongly suspect that Berkshire Hathaway’s CFO would agree with me.  Large U.S. corporations (C Corporations) face marginal corporate income tax rates (federal and state) exceeding 40%. To wish away this very real corporate cash outflow when making investment decisions is nonsensical, and Berkshire Hathaway’s shareholders are not well-served by this perspective.  To set forth, as Buffett has done, pronouncements intended to influence federal tax policy based upon this “wish away” corporate tax mentality is totally irresponsible.  Despite Buffett’s dismissal of the issue, marginal U.S corporate tax rates are too high vis-à-vis the rest of the world.

Buffett used this analytical sleight-of-hand regarding corporate tax rates to pooh-pooh the notion that U.S. corporate tax rates are too high so he could focus his shareholders’ attention on health care costs, the other prong of his political agenda, saying:

“When American business talks about strangling our competitiveness, or that sort of thing, they’re talking about something that as a percentage of GDP has gone down (corporate taxes) while medical costs, which are borne to a great extent by business,” have swelled. 

Buffett is correct when he says that healthcare costs have risen significantly over the years, but he is not correct when he says this increase has been primarily borne by businesses.  As employer-sponsored group insurance premiums have skyrocketed, companies have responded by increasing employee contributions, dramatically increasing deductibles, watering down plan benefits, and increasing prices.  As such, it is employees, consumers, and, of course, taxpayers who have borne most of the increased healthcare costs.

Buffett’s statement was short on explanations as to why he thinks healthcare costs have risen so dramatically between 1960 and now.  I’ll help him.  Increased life expectancy, an aging population, the utilization of effective but expensive technological advances, costly new taxes on (and regulation of) companies providing healthcare products and services, and a significant increase in medical malpractice lawsuits have all contributed to the increase.  In addition, the following healthcare laws (not an exhaustive list, by any means) enacted since 1960, have changed the healthcare landscape:

·         Medicare and Medicaid in 1965

·         Children’s Health Insurance Program (CHIP) in 1997

·         Medicare Part D (prescription and drug care) in 2003

·         Affordable Care Act (Obamacare) in 2010

·         Numerous mandates requiring insurance coverage for specific conditions and procedures

The enactment of these laws amounted to a huge expansion of government influence in the healthcare marketplace, and they also led to a significant increase in the number of people participating in healthcare coverage, or the breadth of their coverage.  Beyond this, these programs added to the disconnect (already prevalent due to the heavy reliance on employer-sponsored group insurance plans) between who is receiving the healthcare benefits and who is paying for them.  It is these factors that combine to form the true catalyst of the significant healthcare cost increases experienced in the United States. 

As a supporter of Obamacare, Buffett and his ideological brethren have led the effort over the years to enact these healthcare “reforms." Leaving aside the debate about the efficacy of the programs (a good debate to have), there is no doubt that U.S healthcare costs have risen as a result of their enactment.  Indeed, it was their direct, express intent.  In light of this, Buffett’s consternation about the increased cost of healthcare is incongruent with his full support of the government policies and initiatives that have caused it. 

Moving to the intersection of health and tax policy, Mr. Buffett was highly critical of the individual tax cut included in President Trump’s healthcare legislation (replacing Obamacare), and said this:

"So it is a huge tax cut for guys like me.  And when there's a tax cut, either the deficit goes up or they get the taxes from somebody else."

As an aside, this last sentence, setting forth Buffett’s tax cut calculus, is glaringly wrong.  Evidently, like most liberals, Mr. Buffett needs to be introduced to the concept of “spending reduction."

The tax cuts Buffett disagrees with are eliminations of large, new taxes put in place in 2013, assessed solely on high income individuals and couples, specifically to fund the cost of Obamacare.  So, if Obamacare gets replaced, what is so immoral about rescinding the new taxes put in place specifically to fund a major component of it?

And if this potential tax cut, as described by Buffett, will be “huge," then the tax increase he bore in 2013 (when this tax increase was implemented) must have been “huge” as well (and it was).  But you’d never know Buffett started paying this huge tax increase in 2013 based upon what he said when he spoke about the tax rates of the top 400 income earners at a Hillary Clinton campaign rally in December, 2015:

Mr. Buffett began his remarks at an event in Omaha with some stark statistics. In 1992, the top 400 wage earners in the United States made an average of $46.8 million each, compared with $335.7 million in 2012, Mr. Buffett said, using the most recent statistics available based on income tax returns.

"This group," which includes Mr. Buffett, who is worth an estimated $66.7 billion, "had their income increase sevenfold," he said, adding, however, that "their tax rate has fallen (from 26.4%) to 16.7 percent, so they got a one-third tax cut as their income went up 7 to 1."

Note the ending year of this tax-rate comparison: 2012.  Buffett lamented, in late 2015, the fact that tax rates for the “wealthy” had declined from 1992 to 2012.  In making this assertion, he totally ignored the “huge” (his word) tax increase imposed solely on the wealthy (to fund Obamacare, as noted above) on January 1, 2013, almost three years earlier!  This tax increase amounted to roughly a 6 percentage point increase in the tax rate of the top 400 (34% in absolute terms). 

In the current debate, Buffett rails against the “huge” tax cut he and his wealthy friends will receive if Obamacare is dismantled.  Yet in an earlier debate, he totally ignored imposition of this same “huge” tax in an attempt to make a political point.  The level of deceit and obfuscation displayed by Mr. Buffett in delivering that Clinton campaign statement is rather stunning. 

Warren Buffett has a long track record of utilizing his platform as CEO of Berkshire Hathaway to make fallacious, illogical, and disingenuous pronouncements regarding federal tax matters. A fawning and sycophantic mainstream media has never applied the lens of critical thinking and analysis in its reporting on these pronouncements, as they would if he were a conservative.  Even right-leaning media outlets like the Wall Street Journal and Fox News have chosen to not fully vet and opine on the veracity of his statements.

George Washington wrote: "Truth will ultimately prevail where there is pains to bring it to light".  It is high time that a major media outlet step up, endure the pains, and bring the truth to light regarding Warren Buffett’s serial sophistry. 

George Harbison has been the Chief Financial Officer of several companies over the last twenty years.  

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