WHY IT'S OKAY TO RAISE TAXES ON THE RICH: If anything, the wealth of the wealthy is now undertaxed

Warren Buffett (top) and Bill Gates (bottom): Two nice rich people who think that taxes on the rich should be raised.

      

Recently the local newspaper has been full of columns and letters praising rich people for the jobs they create and the taxes they pay. Most of these columns suggest that those who, like President Obama, want to raise taxes on the rich must “hate” them and are engaged in “class warfare.”

     I don’t hate the rich. I know a few millionaires, and most of them are decent, generous people. I like them.

     Nevertheless, I do think it is appropriate to raise their taxes in order to buttress the federal budget and thereby protect all our grandchildren from future financial crises.

     Let me explain my position with a hypothetical but realistic example:

     On the one hand, we have Richie Rich, CEO of Rich Inc., a Fortune 500 company. Last year, Rich made $2 million in taxable income (line 43 on Tax Form 1040).

     On the other hand, we have Average Joe, who made $50,000 in taxable income working for Mr. Rich’s company—rather better than average income for an American worker, but solidly middle class.

      Both Joe and Richie are married, filing jointly.

      For 2010, Joe paid $6,666 in federal income taxes—about 13% of his taxable income.

      For 2010, Richie Rich paid $629,760.25 in federal income taxes—about 31% of his taxable income.

      In other words, Richie, whose taxable income was just 40 times as great as Joe’s, paid almost 100 times as much in taxes. This seems to suggest that Richie is indeed paying more than his fair share in taxes.

      Until you look closer at the facts.

      First, Joe is left, after federal taxes, with about $44,000 in spending money. Richie is left with about $1.4 million. Anyone feeling sorry for Richie yet?

      Second, the average Fortune 500 CEO in the U.S. in fact earns not 40 times but approximately 200 times more than the average worker. It is likely, in fact, that Richie, if he’s an average CEO, has earned another $7 million in stocks, stock options, dividends, deferred compensation, and so on. Stocks and stock options do not figure into his taxes. Instead, they are placed in his investment portfolio.

Since President Obama's stimulus plan took effect, the stock portfolios of the rich have increased 60% in value, yet stockholders pay no more than 15% in taxes on their stock dividends, capital gains, or increased wealth.

       Let’s look at that portfolio, which is a key to thinking about this subject. Let’s say Richie received $6 million in stocks in early 2009, as part of his CEO compensation. Since President Obama’s stimulus package went into effect that year, Richie’s stock portfolio, if it has kept up with the stock market as a whole, has risen more than 60%. (The Obama stimulus has been very good for corporations and rich people—don’t let the Republicans tell you otherwise.) That means that in the last two years, Richie, in addition to his salary, has grown wealthier by about $4 million. How much in taxes has Richie paid on that $4 million? If he has not sold his stocks, he has paid. . . nothing. If he sells those stocks after holding on to them for more than a year, he will pay taxes at a rate of just 15%—the top long-term capital gains tax rate. If he's been earning dividends from those stocks over that time—and I promise you he has—he has paid taxes on those dividends at a rate of just 15%. In other words, Richie will pay taxes on $4 million plus dividend income at just about the same rate that Joe paid on his $50,000! In fact, if Richie has held on to his stocks, he has paid no taxes on his increased wealth at all.

     Third, Joe last year paid a payroll tax (which goes toward Social Security and Medicare) of 4.2% of his entire taxable income. Richie, on the other hand, paid a payroll tax on only the first $106,000 of his $2 million income. In other words, Richie paid Social Security and Medicare taxes on just 5% of his taxable income. If both retire at age 66, Richie will get monthly social security checks that are double the size of Joe’s. Yes, Richie has put double the amount into Social Security, but will he really need social security at all? (Most supposed problems with the future solvency of the Social Security system would be taken care of with a “means test” on recipients: If you are rich enough that you don’t need Social Security—say, you make $100,000 or more per year by other means, such as dividends—you wouldn’t get it. The money you have put in would be considered your patriotic contribution to the security of the rest of the elderly population. Republicans don’t seem to believe in this kind of patriotism.)

The rich get a nice fat tax deduction on the mortgage interest for their big houses. Renters get no tax break at all.

      Defenders of the rich often note that Richie also buys big-ticket items—expensive cars, yachts, houses, etc.—on which he pays large sales taxes, while Joe, spending less, pays much less in sales taxes. True, but Joe, to make ends meet, must spend nearly all his leftover income on such things as computers and clothes for his kids, cars for himself and his wife, and gasoline to fuel the cars. Richie, on the other hand, can afford to spend a nice tidy $700,000 per year on stuff (only half his after-tax income) and still have $700,000 or so left over that never is subject to a sales tax (and is probably put into stocks or tax shelters the profits from which will never be taxed at the highest taxable-income rate). Bottom line: Percentagewise, Average Joe pays a lot more in sales taxes than Richie Rich.

     Finally, there’s a good chance Average Joe can’t afford a house; he rents. Richie Rich, on the other hand, has two big houses. He gets to deduct the mortgage interest on those houses from his personal income. Joe gets no such deduction. Who’s getting government welfare in that case?

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This CEO says he plays golf 100 times a year. The average Fortune 500 CEO earns 200 times what the average worker does.

      I’ve never met a CEO who works 200 times as hard as the average worker—indeed, several of  the superrich CEOs I’ve known (and I’ve met a few) spend a certain number of their “work” hours with a golf club or a martini in their hand; I’ve seen them. (For more about CEO golf, go to this link.) Nevertheless, I believe that any person who creates a successful company from scratch, creates jobs, and pays his workers a reasonable wage is to be applauded. Indeed, opponents of an increase in the taxes of such people claim that raising their taxes (especially raising the capital gains and dividend taxes) would discourage them from starting new businesses and investing in innovative companies, thereby stalling out the economy and costing jobs. Higher taxes, they say, will sabotage entrepreneurship and fatally damage the financial system.

     History, however, says otherwise. Once upon a time (from 1950 to 1980), income taxes on the rich were above 70%, and the capital gains tax was double what it is today. Did the economy stall? Was there a slowdown in the creation of new companies? Were jobs lost? No, quite the opposite: It was one of the most economically successful periods in American history, with thousands of companies from Holiday Inns and McDonald’s to Microsoft and WalMart spearheading a huge growth in American enterprise and a vast increase in jobs.     

      So here’s the question: Would a 5% tax increase on the millions of dollars an enterprising businessman might earn really prevent him from creating a company that he expected to be successful? Not any of the businessmen I’ve ever met. They’re smarter, more confident—and, happily, greedier—than that.

In 1976, when Apple was founded, the capital gains and dividend taxes were 2-3 times higher than they are today, and the top income tax was double what it is today, but that didn't stop great entrepreneurs from starting great companies and hiring millions of workers. (For more on the history of capital gains taxes, see this link.)