“To tax the rich, you don't need guns, or money, or even numbers. You just need the will to do what the other guy wouldn't.” Keyser Soze, The Usual Suspects (paraphrased)
I’d like to supply a tax commentary striking a happy medium between ten letters written in red on a dress and thick tombs of wonk analysis. It is possible to tax the rich, at least according to some definitions, but it requires policies that no mainstream politicians are willing to consider; and that wouldn’t satisfy the emotional underpinnings of the slogan. The discussion can also make some sense out of the bewildering variety of numbers thrown around about who pays how much.
To keep things manageable, it’s useful to divide taxes into three large categories. The first includes things like Social Security and Medicare payroll deductions and taxes. To consider the effect of these, you have to subtract the associated benefits. This is also true of gasoline taxes used to maintain highways, local property taxes used to fund schools and other local services that increase property values, sales taxes used in large part to support official infrastructure that makes transactions efficient. I don’t say these taxes are perfectly fair, nor that they should be lower or higher, just that they have to be examined individually relative to the spending they support. And they’re not good ways to tax the rich, because they are paid by poor and middle-class as well as rich, and they consume larger fractions of poor and middle-class income than rich income.
The second category is taxes on wage income. Here’s it’s possible to isolate on the rich—or at least the high-income people—by raising top marginal rates and by eliminating deductions and exemptions for high incomes. But there are issues.
First is that the richest rich get nearly all their income from invested wealth, not wage income. And many high-income people recast their wage income as investment income. CEOs get paid in stock options, private equity managers earn carried interest, athletes form personal services corporations, movie stars form production companies, rock stars start record labels; professionals like lawyers, doctors and accountants form professional limited liability corporations. So you end up catching mostly high-income people who don’t play these games, or who are in professions where they are not allowed.
The bulk of the money from raising top marginal rates comes from people who are already paying very high marginal rates—50% or more with State and local income taxes and phase-outs included. Some of them, like professional athletes, may not have high income long. Others may have trained for over a decade with high student debt, followed another decade of career development, and must live in expensive places, to attain their incomes, and may not consider themselves rich. Some are indeed rich by any definition, but the battle cry here shouldn’t be, “tax the idle rich who pay lower rates than their secretaries,” but rather, “tax the working rich who are already paying 50% at 60%.” Admittedly you get fewer people to the barricades that way.
Increasing taxes this way, raising very high marginal rates even higher, is difficult politically. There are a lot of working rich and they vote and donate. They control powerful professional and lobbying organizations. Many of them are respected—small business owners, doctors, scientists, accountants, engineers, administrators, celebrities (lawyers, lobbyists and bankers are less popular). As a group, they aren’t the kind of movie villains it’s satisfying to hurt. But they do represent the easiest source for substantial increases in tax revenues, hundreds of billions of extra dollars per year.
The third category of taxes are on investing activities. This is the motherlode, and the way you can hit the billionaires hard and leave most upper-middle-class professionals alone. I think these billionaires—the Jeff Bezos and Warren Buffetts and Bill Gates—are the people AOC wanted her dress message to conjure up. The problem here is taxing investing is difficult (another issue, which I don’t address here, is many people not on the Left think taxing investment reduces jobs, wages and GDP growth—hurting everyone, not just rich investors).
The two most popular proposals are raising the corporate income tax rate, and raising the capital gains tax rate. Neither one is likely to be effective.
Corporations are abstract entities, they can write checks to the government, but they can’t pay taxes in economic terms. A dollar of corporate income tax has to come from raising prices, reducing wages or cutting payments to investors. Economic logic suggests that most of the tax will come out of wages. Customers can buy from foreign companies, and investors can invest in them, so the prices of goods and returns on capital are set mostly globally. But few employees are going to emigrate to find employers who don’t pay US corporate income taxes. Empirically, wages vary much more from country to country than either prices for goods and services or returns on capital.
The capital gains tax rate is currently set near its revenue-maximizing level. Raising it a little might generate a little more revenue—opinions differ on this—but no one thinks a large increase (such as up to the rate on ordinary income) will generate a lot more revenue. The problem is when you raise the rate, people realize fewer gains.
The only way to really punish the rich and also get a lot more revenue for the government is to go after unrealized capital gains. One proposal is a wealth tax, another is requiring annual mark-to-market accounting for income tax. But both pose gigantic administrative challenges, and legal issues as well. I consider them unworkable.
The more practical proposal is to require gains to be realized for income tax purposes on gifts and bequests. If this is applied only to the wealthiest people and the largest gifts and bequests, it could be feasible. Assets would not have to be valued annually, just upon death or major gift. Much of this is already done for estate and gift taxes.
The main issue here is you’re not really taxing the rich. Taxing someone after death means taxing heirs. For example, suppose a lucky young person created a tech company in her teens and maintained a large equity stake. She took no salary, and the equity paid no dividends. She supported her lifestyle by borrowing against her equity. She bought whatever she wanted, and paid no income tax. When she died, she left her estate (after repaying accumulated borrowing) to all current and former employees, $10,000 each. The government would swoop in to take $5,400 (assuming 40% estate tax and 23.6% capital gains) from the heirs, not from the dead entrepreneur. The tax made no difference to what the entrepreneur spent during her lifetime.
Of course, the story above is not typical. Most wealthy people leave the bulk of their estates to charities and relatives who, if they were not wealthy before the bequest, are likely wealthy afterwards. So if death is a realization event for wealthy people, the bulk of the tax would be paid by charities and wealthy people.
Some people would find this satisfying—the self-made billionaire can spend whatever he likes in his lifetime without ever paying taxes, but his children or other heirs must split their windfalls with the government. But I think this is not what most people think of as taxing the rich, it’s really a different issue, breaking up dynastic wealth. And few politicians seem interested in supporting such a plan.
In all of this discussion I assume someone finds a positive value in reducing the wealth of rich people—perhaps to increase equality, or to reduce their political clout, or on the assumption that all wealth is acquired by corruption—and increasing funds for government programs. Those things can be done if you want, but no one is talking seriously about doing them. The politically palatable and administratively practical schemes under discussion at the moment won’t raise much revenue and won’t bother the wealthiest people.
I close by pointing out the downsides inherent to the idea of tax the rich. When governments use taxes to punish rather than to acquire necessary revenue, they are on a road to tyranny. Taxes calculated to maximize revenue, as if citizens are sheep and we are maximizing our take of wool, make a mockery of fairness. Historically this was done by tax farming, the government sold the right to collect taxes to the highest bidder, and the highest bidder tried to get the most revenue possible, leading to horrific abuses. It is a big part of the reason the Roman Republic didn’t last and King Louis XVI lost his head! Maximization also means constant tinkering, which makes economic planning less efficient. High marginal rates distort the economy, and make it more profitable to invest in tax arbitrage and cronyism than real economic production. Many tax proposals, including the ones that would be most effective at taxing the rich, will have strong negative long-term economic consequences.
Simple, stable, low marginal-rate taxes designed to get the revenue the government needs with a minimum of expense, invasion of privacy, inconvenience to individuals, people jailed and economic distortion are the best policies. If the result is an unfair allocation of burden, compensate the needy, don’t overcomplicate the tax system in a vain attempt to make everyone’s contribution match your idea of fairness.
But if you disagree, if you prefer to maximize revenue collected from the rich, it can be done. All you need is the will to do what the other guy wouldn’t.