Why investors pay lower taxes
Congress has long set a lower tax rate for investment income, citing the benefit to the economy. But 87% of capital gains are claimed by people making more than $200,000 a year.
This post is by Stephen Ohlemacher of The Associated Press.
Why do Mitt Romney and other wealthy investors pay lower taxes on the income they make from investments than they would if they earned their millions from wages?
Because Congress, through the tax code, has long treated investment more favorably than labor, seeing it as an engine for economic growth that benefits everyone.
President Barack Obama and the Occupy Wall Street movement are challenging that value system, raising volatile election-year issues of equity, fairness -- and Romney's tax returns.
Romney, who released his 2010 and 2011 tax returns this week, has been forced to defend the fact that he paid a tax rate of about 15% on an annual income of $21 million. His tax rate is equivalent to the one paid in 2011 by those making $16,751 to $68,000 who were married and filed jointly. His income, however, is 420 times higher than that of the typical U.S. household.
The Republican presidential candidate's taxes were so low because the vast majority of his income came from investments. The United States has long had a progressive income tax, in which people who make more money pay taxes at a higher rate than those who make less. But for almost as long, the United States has taxed capital gains -- the profit from selling an investment -- at a lower rate than wages.
"There are two ways to look at it: There is a moral argument and an economic growth argument, and they both point to lower taxes on capital gains," said William McBride, an economist at the conservative Tax Foundation.
McBride says it is unfair to tax income more than once, and capital gains are taxed multiple times. If you got the original investment from wages, that money was taxed. If the stock you own gains value because the company you invested in makes a profit, those profits are taxed through the corporate tax. And if that company issues dividends, those are taxed as well.
Lots of people are double taxed, says Chuck Marr, the director of federal tax policy for the liberal Center on Budget and Policy Priorities. "Check out your last pay stub: There's income tax and payroll tax, so you're double taxed, too," Marr said.
And, he noted, when you buy something, you probably pay a sales tax.
Under current law, the top tax rate is 15% on qualified dividend and long-term capital gains -- the profits from selling assets that have been held for at least a year. The top income tax rate on wages is 35%, though that applies only to taxable income above $388,350.
Congress started taxing capital gains at a lower rate than wages following World War I. The concern then was that high taxes on capital gains actually reduced revenue because people would simply hold onto their investments and restrict the flow of capital, according to the Encyclopedia of Taxation and Tax Policy.
At the time, however, the top tax rate on wages was a whopping 73%. In 1922, Congress lowered the top capital gains rate to 12.5%, a rate that lasted until 1934.
For much of the next 70 years, the top tax rate on long-term capital gains hovered between 20% and 30%, going as high as 39.9% in the 1970s but never falling below 20% until 2003, when Congress passed a gradual reduction to the current rate.
The 2003 law also started taxing qualified dividends at the same rate as capital gains.
Liberals and some moderates argue that lower taxes on investments are a giveaway to the rich because they are the ones who get the most benefit. Last year, two-thirds of all capital gains went to people making more than $1 million, according to the nonpartisan Joint Committee on Taxation, the official scorekeeper for Congress.
Only 5% of capital gains went to people making less than $100,000, and only 13% went to people making less than $200,000.
"I'm a liberal person and I believe strongly that the wealthy should pay more than the working poor," Marr said, regardless of whether the income is from investments or labor.
Obama has taken up this argument, though his budget proposals have called for only small tax increases on capital gains and dividends, to a top rate of 20%.
Instead, Obama has developed the "Buffet Rule," named after billionaire investor Warren Buffet, which says rich people shouldn't pay taxes at a lower rate than their secretaries. To impose this rule, Obama said at his State of The Union address Tuesday that people making more than $1 million should pay at least 30% of their income in taxes.
"Now, you can call this class warfare all you want," Obama said. "But asking a billionaire to pay at least as much as his secretary in taxes? Most Americans would call that common sense."
The proposal has little chance of passing a divided Congress this year, and the Obama administration has released few details on how the tax would work.
Conservatives argue that increasing investment taxes would make it harder for businesses to raise capital, restricting job growth, hurting financial markets and reducing the income of people who rely on pension funds and 401k accounts, as well as the income of billionaires and millionaires.
"In my view, the rationale for taxing capital gains and dividends at a lower rate has nothing to do with what an individual pays versus another individual," said Jim McCrery, who was a senior Republican member of the tax-writing House Ways and Means Committee when the 2003 tax cuts were enacted. "It has everything to do with the creation of jobs in this country."
McCrery now works for the Alliance for Savings and Investment, a coalition of companies and business groups that want to keep the current tax rates on capital gains and dividends.
Copyright 2012 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.
More from MSN Money:
- Gingrich ploy skirts Medicare taxes
- Jobless? You still owe income tax
- Romney would hike taxes on the poor by 60%
- Poll: Rich aren't paying fair share of taxes
- Study: Gingrich plan would aid rich, add to deficit
VIDEO ON MSN MONEY
I am one of three children in my family. My parents were divorced when I was 9 months old and both remarried within a few years. I lived with my Mom and step father. Both blue collar workers who earned a combined salary of about 75k per year.
I have two brothers, none of us have a college degree. Education wasn't stressed at home and we couldn't afford it anyway.
At 35, my salary was $125k per year as a security executive
Brother 1 is a Detective makes $110k a year. Owns a home with a wife and 3 kids
Brother 2 is a VP for a music company making 100K+. Owns a home with 2 kids
So all of us work very hard, do better than the average earner and none of us has a college degree. How does this happen? Were we lucky? Or could it be that we all just work hard everyday, don't charge thousands of dollars worth of goods we can't afford and try to save where we can. We all (especially me with no children) pay a lot of money in taxes (I paid about 28% last year). Are we paying our fair share? Every person I went to high school with had the same opportunity that I did. Many have yet to reach their potential, but they all had the opportunity.
Quit crying and make things happen. The government was not created to make its citizens rich. And taxes weren't established to be redistributed. Obama isn't Robin Hood and we are not peasants.
So someone goes out and makes money that they paid taxes on. Then they take the net proceeds and invest those already taxed dollars and make some more money from monies that they already paid taxes on. Seems reasonable to me that a person would be taxed at a lower rate after investing money that they have paid taxes on once already.
What is not mentioned is the risk one incurs when making an investment. Your investment does not always make a profit. Lately, more people have lost more than they have gained. Robert earlier stated that the labor force should stop working for a while and see what the investors think. The reverse is true, eliminate the investor and there will be no work for the labor force. Raise the tax rate and many will question if the risk is worth the investment.
I also tire of the Presidents reference to Buffets secretary. According to Forbes she makes $250,000 to $500,000 a year. That makes her part of the 1% and being paid as wages is at the standard tax rates.
"I'm a liberal person and I believe strongly that the wealthy should pay more than the working poor," Marr said,
There is absolutely nothing stopping Mr. Marr from donating all his money to the Federal Gov't. I am sure they would love to have it and dump it in the hole they can't possibly fill with all the money Mr. Marr and all other wealthy people have. It would not make a dent in the US 16.5 Trillion debt. In fact if all the people in the US gave all their money to the Federal Gov't we would still be in debt. Just look at the debt clock. Each man, woman and child in America owes more than most will earn in a life time. Time to stop giving our wealth away to the Gov't and to others in the world.
To paraphrase Winston Churchill; A nation that thinks by raising taxes they can pay down debt is like a man in a bucket trying to raise himself by the handle. Mr. Marr, George Soros, Warren Buffett and this Administration are all "Bucket Men" trying to lift the country up on the backs of the American people. Maybe it is time to balance he budget and reduce the Federal Gov't. That is where the real problems lay.
Ive been a lifetime Democrat, but they lose me when the side with Occupy and others who dont know anything about business and want a free ride paid for by other people. Corporate tax rates in the US are 35%, the highest in the world. Korea and many countries we compete with have rates around 15%.
So the stocks I own, which make me part owner of the company, have already had corporate taxes paid on them. I have already paid taxes on the income I used to buy the stock. I need every cent of the dividend income I will get for my retirement.
Ive worked hard to turn my life around and build a future. If the Democrats keep up the anti-investor rhetoric and say its the party platform I will have to vote Republican for the first time in my life.
Tax his land,
Tax his bed,
Tax the table,
At which he's fed.
Tax his tractor,
Tax his mule,
Teach him taxes
Are the rule.
Tax his work,
Tax his pay,
He works for
Tax his cow,
Tax his goat,
Tax his pants,
Tax his coat.
Tax his ties,
Tax his shirt,
Tax his work,
Tax his dirt.
Tax his tobacco,
Tax his drink,
Tax him if he
Tries to think.
Tax his cigars,
Tax his beers,
If he cries
Tax his tears.
Tax his car,
Tax his gas,
Find other ways
To tax his ****.
Tax all he has
Then let him know
That you won't be done
Till he has no dough.
When he screams and hollers;
Then tax him some more,
Tax him till
He's good and sore.
Then tax his coffin,
Tax his grave,
Tax the sod in
Which he's laid...
Put these words
Upon his tomb,
'Taxes drove me
to my doom...'
When he's gone,
Do not relax,
Its time to apply
The inheritance tax.
"It has everything to do with the creation of jobs in this country."
Investing in "emergent" economies and foreign bonds etc. how does that create jobs??Investing in gold an silver..does that create jobs?? If the capital gains tax is the lowest since the depression why have we been losing jobs?? They are not investing in job creating things they are moving wealth around (with the help of computers) to create more wealth not jobs.
As a simple explanation, suppose a person invests $100,000 into plant and equipment in 1980 because it has long term growth potential, and sells it in 1990 for $150,000, for a nominal gain of $50,000, and if we taxed that $50,000 gain at 30%, or $15,000, the investor would have a net gain of $35,000 after 10 years. But what about inflation - during that same 10 year period, the value of the $Dollar decreased by 37% (actual net purchasing power), so his net investment is now worth only $85,000 ($135,000 x 63%) in terms of the original value of his original investment of $100,000 - a net LOSS of $15,000 over 10 years. Who in their right mind would make long term investments if they are going to lose money by doing so? And without long-term investments in plant and equipment, few - if any - jobs would be created.
PS - You could take any decade in the last 50 years, and in each case using the above scenario (changing only the inflation rate for each period), you would get similar results.
I would feel a whole lot better about paying taxes if it wasn't squandered away on BS by the people in congress and the president. It's bad enough that they get the various taxes that are included in income taxes, but they have turned Social Security into what is effectively a Ponzi scheme by pillaging that money.
If you want everyone to "pay their fair share", first you would have to decide exactly how do you decide what is someone's "fair share". Personally, I think we should get rid of the whole IRS code and implement The Fair Tax Plan.
As far as changing the investing rates to get rid of what a lot of people seem to see as an "inequality" due to a lower tax rate on qualified dividends and long term capital gains, what does the president plan on doing with municipal bonds? Typically, income from municipal bonds is tax free. The main reason that investors put their money into municipal bonds is that the income is tax free because they pay a lousy return. If the income from municipal bonds is taxed, they will have to start paying a better return to the bondholders or they won't get any investors. If they have to increase their returns to investors, the next time your city decides to do something that is going to require raising money from issuing bonds, the project is going to cost the city a lot more money or they won't be able to fund the project. It sounds so easy to just increase the taxes on the "evil rich" but there are usually consequences that people don't think through. That is just one.
It's worth noting that this 15% rate applies only to LONG TERM capital gains, that is, investments held for more than one year. Investments held for less than a year are taxed at the individual's normal tax rate, or 35% for an upper bracket taxpayer.
Frankly, for the risk one runs in investments these days, if I had to pay 30% or higher tax rate, I would seriously consider whether the risk/benefit ratio was worth it. I think not.
Copyright © 2014 Microsoft. All rights reserved.
Fundamental company data and historical chart data provided by Morningstar Inc. Real-time index quotes and delayed quotes supplied by Morningstar Inc. Quotes delayed by up to 15 minutes, except where indicated otherwise. Fund summary, fund performance and dividend data provided by Morningstar Inc. Analyst recommendations provided by Zacks Investment Research. StockScouter data provided by Verus Analytics. IPO data provided by Hoover's Inc. Index membership data provided by Morningstar Inc.